To focus on core operations, management begins by identifying components of the organization’s value chain.
In we defined the value chain as the set of activities and resources necessary to create and deliver the product or service valued by customers.
The typical components of a simple value chain are shown below.
Obviously, the details of each organization’s value chain will look different. Further, the value chain or each particular product or service within an organization can be very different.
Consider Blockbuster, the company whose Web site is displayed at the beginning of this chapter and discussed in the opening story. On its home page, Blockbuster ts some of its products and services: music, video, and games. These categories reprove cut different markets with different types of suppliers and customers. For example, product characteristics that an valued’ by a typical video customer will differ significantly from those valued by a game customer. In addition, the suppliers for video (movie companies and games (software developers) differ significantly.
Creating a value
team to satisfy diverse customer needs is a major challenge for most businesses (If J company’s products and services, the following components of the value Activity-Based Management Across the Value Chain While activity-based cost information is very important in the production portion of the value chain, it is also very useful for assessing activities associated with period expenses
such as R&D, distribution, administration, finance, marketing, and customer service.
In .many organizations, period expenses are more significant contributors to profitability than product costs. .
Managing Activities: An Illustration ABC information helps managers compare their organization’s cost per activity to externally competitive ‘Costs. To illustrate, consider Boards and More, Inc., a company that provides lumber and. packaging products.
The chief financial officer (CFO) has decided to undertake a study of the finance-related activities provided by the Accounting and Finance (A&F) Department. The activities performed by the A&F Department are identified and divided into lour main categories:
(1) transaction-related activities,
(2) extemal financial reporting,
(3) annual planning and budgeting, and (4) providing specially requested analyses. The table on the following page outlines those activities and the related percentage of resources consumed for each. The ABC analysis in the table provides information 10 help the CFO manage the activities of the A&F Department. Boards and More’s A&F Department has a total pool of 30 employees, representing a yearly cost pool of $1,415,600. First examine the
These activities are undertaken to ensure basic journal entries are’ properly recorded and monitored throughout the firm. Account clerks complete much of the detail work. However, internal auditors are concerned that safeguards are in. place to eliminate error and fraud in recording transactions. Budget and financial analysts are also involved in comparing transactions to budgeted numbers, undertaking analyses for external reporting purposes and other special business analyses. The CFO estimates $397,150 as the ‘cost pool associated with transaction-related activities.
A software vendor has presented the CFO with data showing that employee time associated with transaction activities could be cut in half with its popular software arc active:
• Searchlight spatula development (R & D) and design activities include the creation of ideas and the development of prototype products, processes, and services.
• Suppliers and production-related activities include the procurement of raw materials and supplies and the activities needed to convert them into finished goods and services. 11,rototiller.: and distribution activities are designed to provide information to potential
. custom and make the products and services accessible to customers.
• Customer service activities arc those resources consumed by supporting the product or service after it is sold to the customer. Vittles- anti NO;l-Value-Added Activities Organizations attempt to identify and eliminate the non-value-added activities in their value chains. Value-added activities add to the product’s or service’s desirability in the eyes of the consumer. Non-value-added activities do not add to the product’s desirability. Thus, when an organization consumes non-value-added resources, it can decrease its costs if the activity that consumes that resource can be eliminated without changing the product’s desirability.
An example of a non-value-added activity is having large amounts of Jaw materials, work in process, nr finished goods inventory. Blockbuster’s CEO recognizance the cost associated with inventories because part of the crux of his comeback is a focus 011 tighter inventory control.
Just-in-time inventory management processes,discussed later in this , have been developed to reduce the consumption of non value- added resources associated with large amounts of inventories.In the previous two chapters, we concentrated our cost analysis only on the production phase of the value chain. However, resources are consumed across the value chain.
Organizations attempt to minimize resource consumption at all points on the value chain while simultaneously providing the products and services desired by consumers at competitive prices. In this chapter, we will consider other cost accounting procedures and techniques that have been developed to assess resource use and costs in all parts of the value chain.
These procedures include activity-based management, which is effective over the entire value chain; target costing, designed for the R&D and design phase of the value chain; just-in-time inventory procedures,’ and, finally, total quallt. which is also relevant over the entire value chain.
In , we introduced activity-based costing (ABC) and provided an ABC example focused on production overhead. The basic procedures related to ABC include the following:
I. Identify the activfty.
2. Create an associated activity cost pool.
3. Identify an activity measure.
4. Create the cost per unit of activity.
Let’s return to the Master File, Inc., example used in Chapter 17 and
the activity associated with equipment repair. You may recall that the Maintenance Department for Master File has five full-time employees that are responsible for repair and set-up work on the machinery used to cut and bend metal to form file cabinets.
The Maintenance Department’s
total cost pool is $180,000, which is divided between 108.000 and $72,000-the cost pools associated with repair activity and set-up activity, respectively. For the repair activity cost pool, we used the number of work orders issued for repairs (250 per year) as the activity measure.
Thus the cost per work order is determined by dividing $108,000 by the total number of work orders issued per year, or $432 ($108,000 250) per work order. Two hundred of the 250 repair work orders experienced each year are related to the normal production of 42,000 metal tile cabinets. The resulting per metal file cabinet expense for repairs is determined as follows:management decision making.
Remember that management is trying to eliminate value added activities from the value chain. If the activity of equipment repair can be eliminated from the value chain without increasing the cost associated with the total value chain, then it is a non-value-added activity.
The process of using activity-based costs to help reduce and eliminate non-value-added activities is activity-based management.
may be able to redesign its equipment layout, acquire higher quality metal materials as inputs, buy. new equipment, outsource repair work for less than $432 per work order, or some combination of these management decisions to reduce or eliminate the repair activity and associated resources.
The United States Postal Service
(USPS) used activity-based costing information prepared by Coopers and Brandy (C&L) to help manage its costs. C&L’s study estimated the costs associated with processing the USPS cash and check transactions each year to. exceed $1 billion. Activity·-based management led USPS to reduce the costs associated with revenue transactions from postal customers by implementing credit and debit card processing. The use of credit and debit cards made funds java Uable faster, reduced bad debt collection costs, and reduced the risk of cash losses from employee fraud. C&L’s study estimated the cost associated with processioning to be $0.048 per cash-dollar collected versus $0.027 per credit card dollar processed between 1995 and 1997.