This document covers topics related to activity-based management (ABM) including: the four basic steps of activity-based costing (ABC); identifying value-added and non-value added activities; using ABC and target costing together; and implementing ABC and ABM including overcoming common challenges. It provides details on evaluating costs and values of processes to identify opportunities to improve efficiency through ABM.

1. Topic 4b
Activity-Based Management

2. 2-2
This topics covers the following:
 Revision of Activity Based Costing – the
four steps
 ABC and target costing
 Value added and non value added activity
analysis
 Implementation of ABC and ABM
 Revision of Activity Based Costing – the
four steps
 ABC and target costing
 Value added and non value added activity
analysis
 Implementation of ABC and ABM

3. 2-3
??
ABM adds:ABM adds:
•Identification of value-added
and non-value-added
activities
•Identification of value-added
and non-value-added
activities
Activity-Based Management
4 Basic Steps4 Basic Steps
 Identify & classify the
activities related to the
company’s products or
services.
 Estimate the costs
associated with each
activity.
 Calculate a cost-driver rate
for each activity.
 Assign activity costs to
products using the cost-
driver rate.
4 Basic Steps4 Basic Steps
 Identify & classify the
activities related to the
company’s products or
services.
 Estimate the costs
associated with each
activity.
 Calculate a cost-driver rate
for each activity.
 Assign activity costs to
products using the cost-
driver rate.
•Identifies the customer
perceived value of each
activity
•Identifies the customer
perceived value of each
activity
•Identifies opportunities to
enhance value-added
activities and reduce or
eliminate non-value-added
activities
•Identifies opportunities to
enhance value-added
activities and reduce or
eliminate non-value-added
activities

4. 2-4
1. Identify and measure the different levels of resource spending1. Identify and measure the different levels of resource spending
2. Measure the costs of individual activities2. Measure the costs of individual activities
3. Identify cost-driver bases and measure activity
cost-driver rates
3. Identify cost-driver bases and measure activity
cost-driver rates
4. Use cost-driver rates to assign activity costs to
products, jobs, services, and projects by multiplying the
use of cost driver base(s) by the cost driver rates
4. Use cost-driver rates to assign activity costs to
products, jobs, services, and projects by multiplying the
use of cost driver base(s) by the cost driver rates
5. Analyze the profitability of products using
ABC unit-level and full costing.
5. Analyze the profitability of products using
ABC unit-level and full costing.
The Steps Of ABC

5. 2-5
Activity-Based Management
(ABM)
Evaluates theEvaluates the
costs and valuescosts and values
of processof process
activities . . .activities . . .
. . . To identify. . . To identify
opportunities toopportunities to
improveimprove
efficiency.efficiency.
Activity-BasedActivity-Based
CostingCosting
Activity-BasedActivity-Based
CostingCosting
Valued-AddedValued-Added
AnalysisAnalysis
Valued-AddedValued-Added
AnalysisAnalysis
ProcessProcess
Improvements,Improvements,
Customer Value, &Customer Value, &
Reduced CostsReduced Costs
ProcessProcess
Improvements,Improvements,
Customer Value, &Customer Value, &
Reduced CostsReduced Costs
==++

6. 2-6
Target
Cost =
market
price less
return on
sale
Target
Cost =
market
price less
return on
sale
Megaburger Promotional ToysMegaburger Promotional Toys
Combining ABC And Target
Costing

7. 2-7
ABC-Target Costing Analysis
By comparingBy comparing
the target cost tothe target cost to
the currentlythe currently
feasible cost, wefeasible cost, we
can determinecan determine
the amount thatthe amount that
cost needs to becost needs to be
reduced.reduced.
By comparingBy comparing
the target cost tothe target cost to
the currentlythe currently
feasible cost, wefeasible cost, we
can determinecan determine
the amount thatthe amount that
cost needs to becost needs to be
reduced.reduced.
Exh.
5.2

8. 2-8
ActivitiesActivitiesActivitiesActivities
Create outcomes
and consume resources
Create outcomes
and consume resources
VALUE-ADDED ACTIVITIES
enhance the value of products
and services in the eyes of
the customer while meeting
the goals of the organization
VALUE-ADDED ACTIVITIES
enhance the value of products
and services in the eyes of
the customer while meeting
the goals of the organization
NON-VALUE-ADDED
ACTIVITIES
do not contribute to customer
perceived value
NON-VALUE-ADDED
ACTIVITIES
do not contribute to customer
perceived value
The Importance Of Customer
Value

9. 2-9
Why do organizations have incentives
to eliminate non-value added activities?
Why do organizations have incentives
to eliminate non-value added activities?
Competitors are
constantly striving
to create more value
for customers at
lower cost
Competitors are
constantly striving
to create more value
for customers at
lower cost
The organization can
apply the freed- up
resources to value-
added activities or
distribute them to the
employees of the
organization.
The organization can
apply the freed- up
resources to value-
added activities or
distribute them to the
employees of the
organization.
Competition can
appear quickly
Competition can
appear quickly
Non-value Added Activities

10. 2-10
Most Likely Sources of Non-
Value-Added Activities

11. 2-11
If the answer
is “yes” to
both it is
value-added.
If the answer
is “yes” to
both it is
value-added.
If the answer
is “no” to
both or either
it is non-
value-added.
If the answer
is “no” to
both or either
it is non-
value-added.
YESYES YESYESNONO NONO
The test for value
added activities
The test for value
added activities
Identifying Value-Added
Activities
“Would an external
customer encourage
the organization to do
more of the activity?”
“Would an external
customer encourage
the organization to do
more of the activity?”
“Would the organization
be more likely to
reach its goal by
performing that activity?”
“Would the organization
be more likely to
reach its goal by
performing that activity?”

12. 2-12
VALUE-
ADDED
VALUE-
ADDED
NON-
VALUE-
ADDED
NON-
VALUE-
ADDED
Rate on a scale of 1 to 5Rate on a scale of 1 to 5Rate on a scale of 1 to 5Rate on a scale of 1 to 5
Necessary ActivitiesNecessary Activities
Technological
Requirements
Technological
Requirements
Policy
Requirements
Policy
Requirements
Regulatory
Requirements
Regulatory
Requirements
5 4 3 2 1
Neither value-added nor non-value-addedNeither value-added nor non-value-added
How Should An Organization
Measure Value-Added?

13. 2-13
 Everyone’s knowledge is limited
 Everyone is potentially biased in
his or her response
 Everyone’s knowledge is limited
 Everyone is potentially biased in
his or her response
Use a team
approach
Use a team
approach
Who Should Perform The
Measurement Activity?

14. 2-14
Twin objectives
of
ABM
Twin objectives
of
ABM
Identify non-value-added
activities to be eliminated
or reduced
Identify non-value-added
activities to be eliminated
or reduced
Identify value-added
activities to be enhanced
Identify value-added
activities to be enhanced
Redesign processes to eliminate wasteful spending on
non-value-added activities
Redesign processes to eliminate wasteful spending on
non-value-added activities
Tasks Required by Activity-
Based Management

15. 2-15
5 (highest) $100 3.3%
4 0 0.0%
3 1,200 40.0%
2 700 23.3%
1 (lowest) 1,000 33.3%
Total $3,000 100.0%
By comparing the cost to the value of the task, we can identify
oversupplied non-value-added activities and undersupplied value-
added activities. By focusing on those low-value tasks with high
resource allocation, we can improve efficiency.
By comparing the cost to the value of the task, we can identify
oversupplied non-value-added activities and undersupplied value-
added activities. By focusing on those low-value tasks with high
resource allocation, we can improve efficiency.
Oversupplied
non-value-added
activities
Oversupplied
non-value-added
activities
Sorting Activities By Cost
And Value

16. 2-16
Ask “Why?” for each
step in the process.
Why#1: Appearance and product function requires
removal of the excess
Why#2: Under high-injection pressure, plastic leaks
from the edges of the mold
Why#3: High pressure is required to mold the
products properly
Why#4: The design of the molds permits leakage
Why#5: The molds are based on old designs
Why do employees need to trim
excess plastic from molded
products?
SOLUTION: Rework or replace old
molds with improved molds to eliminate
the need for trimming and recycling.
Identifying Opportunities For
Process Improvement

17. 2-17
Why are we spending so much time on
non-value-added record keeping and
the correction of recording errors?
Why are we spending so much time on
non-value-added record keeping and
the correction of recording errors?
SOLUTION: Install a bar-coding
system to mark and track all
orders electronically
SOLUTION: Install a bar-coding
system to mark and track all
orders electronically
A bar-coding system creates a
unique bar code for each order
and allows the company to mark
and track all orders electronically
A bar-coding system creates a
unique bar code for each order
and allows the company to mark
and track all orders electronically
Ask “Why?” for each
step in the process.
Identifying Opportunities For
Process Improvement

18. 2-18
After processAfter process
improvements,improvements,
total elapsedtotal elapsed
time has beentime has been
reduced toreduced to
82.2 minutes.82.2 minutes.
If we assume aIf we assume a
cost of $10 percost of $10 per
hour, what ishour, what is
the costthe cost
savings?savings?
If we assume aIf we assume a
cost of $10 percost of $10 per
hour, what ishour, what is
the costthe cost
savings?savings?
Identifying Opportunities For
Process Improvement

19. 2-19
Time Saved:Time Saved:
286 min.286 min.
- 82.2 min.- 82.2 min.
203.8 min.203.8 min.
÷÷ 60 min/hr60 min/hr
3.397 hrs.3.397 hrs.
Time Saved:Time Saved:
286 min.286 min.
- 82.2 min.- 82.2 min.
203.8 min.203.8 min.
÷÷ 60 min/hr60 min/hr
3.397 hrs.3.397 hrs.
Cost Savings:Cost Savings:
3.397 hrs.3.397 hrs.
× $10/hr.× $10/hr.
$33.97$33.97
Cost Savings:Cost Savings:
3.397 hrs.3.397 hrs.
× $10/hr.× $10/hr.
$33.97$33.97
Identifying Opportunities For
Process Improvement

20. 2-20
The Focus of
ABC
The Focus of
ABC
The Focus of
ABM
The Focus of
ABM
Developing improved
product or service costs
given current processes
Developing improved
product or service costs
given current processes
Identifying opportunities
for improving processes
Identifying opportunities
for improving processes
Consider cost-benefitsConsider cost-benefits
Implementation Of Activity-
Based Costing & Management

21. 2-21
What Organizations Adopt ABC and
ABM?
What Organizations Adopt ABC and
ABM?
Companies facing price competitionCompanies facing price competition
Companies producing many different,
complex products from common
facilities
Companies producing many different,
complex products from common
facilities
Implementation Of Activity-
Based Costing And
Management

22. 2-22
What is the scope of the ABC or ABM project?What is the scope of the ABC or ABM project?
Pilot ProjectPilot Project Organizationwide
System
Organizationwide
System
Can You Be Sure That ABC
And ABM Will Be Successful?
What is a “pilot
project”?
What is a “pilot
project”?
A project of limited
scope that is intended
to be a small-scale
model of an
organizational system.
A project of limited
scope that is intended
to be a small-scale
model of an
organizational system.
Why use a “pilot
project”?
Why use a “pilot
project”?
Anticipate the linkages
across departments,
groups and processes.
Anticipate the data
gathering and reporting
requirements.
Anticipate the linkages
across departments,
groups and processes.
Anticipate the data
gathering and reporting
requirements.

23. 2-23
What resources
are necessary?
What resources
are necessary?
Management
Commitment
Management
Commitment
Personnel
and Time
Personnel
and Time
TechnologyTechnology
Begin with
existing
commercial
software
Begin with
existing
commercial
software
Significant projects
will require a three-
to four-person,
cross-functional
team at least four
to six months of
full-time effort
Significant projects
will require a three-
to four-person,
cross-functional
team at least four
to six months of
full-time effort
Educate top
management
as to
cost/benefits
Educate top
management
as to
cost/benefits
Can You Be Sure That ABC
And ABM Will Be Successful?

24. 2-24
How can you anticipate and overcome resistance to
change?
How can you anticipate and overcome resistance to
change?
Prevent or Minimize
Resistance by:
Prevent or Minimize
Resistance by:
Effects of CultureEffects of Culture
Education and TrainingEducation and Training
Incentives that Encourage
and Reward Change
Incentives that Encourage
and Reward Change
Widespread Sponsorship
and Participation
Widespread Sponsorship
and Participation
Be Sensitive to Differences
in National Cultures
Be Sensitive to Differences
in National Cultures
Can You Be Sure That ABC
And ABM Will Be Successful?

25. 2-25
ABC and ABM require information that is not normally available
from an organization’s information systems
ABC and ABM require information that is not normally available
from an organization’s information systems
This
information can
be generated
by:
This
information can
be generated
by:ObservationObservation
InterviewInterview
SurveySurvey
Can You Be Sure That ABC
And ABM Will Be Successful?
How do you gather information?How do you gather information?

26. 2-26
How Should you Perform the Analysis and
Make Recommendations?
How Should you Perform the Analysis and
Make Recommendations?
Can You Be Sure That ABC
And ABM Will Be Successful?
Though top managers ultimately have the
responsibility for authorizing and effecting major
changes, the analysis team is best prepared to
analyze the data and make recommendations.
Though top managers ultimately have the
responsibility for authorizing and effecting major
changes, the analysis team is best prepared to
analyze the data and make recommendations.
The team is ultimately familiar with the data, its
strengths and weaknesses.
The team is ultimately familiar with the data, its
strengths and weaknesses.
Empowering and Requiring the Team to Make
Recommendations gives the Control and
Accountability for the Entire Project
Empowering and Requiring the Team to Make
Recommendations gives the Control and
Accountability for the Entire Project

27. 2-27
Activity based management
Value added activityValue added activity
Target costingTarget costing Non value addedNon value added
sourcessources
Top downTop down
approachapproach
Interview approachInterview approach
RecyclingRecycling
approachapproach
Topic 2Topic 2
ImplementationImplementation
problemsproblems
Activity Based CostingActivity Based Costing
ProcessProcess
improvementimprovement