Activity-Based Costing

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Information about Activity-Based Costing

Published on December 4, 2007

Author: rexcris

Source: slideshare.net

Activity Based Costing, Profitability & Credit Granting

Presentation Contents ABC Definition, Model & Process Deliverables & Objectives of ABC Product & Client Profile Profitability Profitability Based Credit Granting Practical Application of Info

ABC Definition, Model & Process

Deliverables & Objectives of ABC

Product & Client Profile Profitability

Profitability Based Credit Granting

Practical Application of Info

A ctivity B ased C osting

What is ABC? ABC is a scientific method of accurately allocating costs to cost objects (products / client profiles / branches) It aims to avoid the arbitrary allocation of overheads to cost objects

ABC is a scientific method of accurately allocating costs to cost objects (products / client profiles / branches)

It aims to avoid the arbitrary allocation of overheads to cost objects

The ABC Model General Ledger costs represent resources (people / property / services / machines) Resources are used to perform activities (applications / approvals / payouts / receipts / credit control) Activities are performed to service or deliver or provide cost objects (products / client profiles / branches)

General Ledger costs represent resources (people / property / services / machines)

Resources are used to perform activities (applications / approvals / payouts / receipts / credit control)

Activities are performed to service or deliver or provide cost objects (products / client profiles / branches)

The ABC Process General Ledger Department / Branch Costs Resources Activities Cost Objects 100% of R150m 100% of R150m 100% of R150m 100% of R150m Volume Drivers

Deliverables & Objectives Fixed and variable costing for products, client profiles and branches Unit costs per activity Profitability of each product, client profile and branch Drill-down capability e.g. profitability of 12 month bronze clients in Durban Monthly automated electronic model Promote the profitable, review the unprofitable

Fixed and variable costing for products, client profiles and branches

Unit costs per activity

Profitability of each product, client profile and branch

Drill-down capability e.g. profitability of 12 month bronze clients in Durban

Monthly automated electronic model

Promote the profitable, review the unprofitable

ABC Project Key Components Data Warehouse: quality data in = quality data out Metify Software: ability to drill down into detail => impossible in a spreadsheet Consultants: knowledge of software, guidance of process, dedicated time GL & Process Knowledge: must understand what drives the costs O&M Expert: accurate work measurement of branch activities

Data Warehouse: quality data in = quality data out

Metify Software: ability to drill down into detail => impossible in a spreadsheet

Consultants: knowledge of software, guidance of process, dedicated time

GL & Process Knowledge: must understand what drives the costs

O&M Expert: accurate work measurement of branch activities

Profitability of Products

Products: Average Loan

Products: Average Revenue

Products: Average Cost

Products: Ave Contribution

Products: Min Loan Size

Profitability of Client Profiles

Client Profiles: Bad Rates

Client Profiles: CIR

Client Profiles: ROE

Client Profiles: Ave Revenue

Client Profiles: Ave Cost

Client Profiles: Ave Contribution

Profitability & Credit Granting

Profitability & Risk Traditionally credit granting decisions are based on risk odds Risk odds are a measure of bad debt only Profitability is a measure of revenue, costs and bad debt Minimising Bad Debt does not necessarily maximise profits There is an optimal level of bad debt at which profits are maximised

Traditionally credit granting decisions are based on risk odds

Risk odds are a measure of bad debt only

Profitability is a measure of revenue, costs and bad debt

Minimising Bad Debt does not necessarily maximise profits

There is an optimal level of bad debt at which profits are maximised

Profitability Graph

Profitability Matrix for Products & Behavioural Client Profiles

Product / Profile Matrix: Bad Debt to Income 0.0% 0.4% 37.2% 1.6% Purple - Rehab. 108.4% 104.4% 32.5% 11.5% Ore 35.6% 31.8% 17.4% 6.6% Tin 21.8% 6.9% 11.1% 4.7% Steel 6.7% 4.5% 11.3% 6.9% Bronze 2.7% 4.4% 6.3% 2.4% Silver 1.6% 2.6% 4.0% 1.1% Gold 2.7% 2.3% 3.6% 0.8% Platinum 3.6% 2.7% 3.5% 0.1% Diamond 12 M REAPP 6 M REAPP 4 M REAPP 1 M REAPP  

Product / Profile Matrix: Cost to Income Ratio 13.1% 35.1% 81.8% 426.0% Purple - Rehab. 67.6% 53.4% 54.3% 274.5% Ore 28.8% 30.8% 45.4% 242.0% Tin 27.9% 27.0% 41.5% 249.2% Steel 28.9% 22.8% 45.5% 272.8% Bronze 16.6% 20.9% 51.1% 280.9% Silver 14.4% 20.7% 51.1% 275.4% Gold 15.5% 28.8% 76.6% 300.8% Platinum 14.6% 26.8% 67.4% 274.1% Diamond 12 M REAPP 6 M REAPP 4 M REAPP 1 M REAPP  

Product / Profile Matrix: Return on Equity 0.0% 351.6% -52.7% -1217.5% Purple - Rehab. -102.1% -182.1% 43.9% -1051.4% Ore 41.0% 96.9% 119.4% -877.6% Tin 51.8% 104.8% 153.5% -834.9% Steel 30.5% 134.6% 122.4% -909.2% Bronze 72.5% 171.3% 105.3% -873.5% Silver 79.0% 168.1% 107.4% -835.8% Gold 81.4% 116.8% 36.7% -942.8% Platinum 88.1% 117.6% 54.1% -846.8% Diamond 12 M REAPP 6 M REAPP 4 M REAPP 1 M REAPP  

Product / Profile Matrix Average Profit before tax - - 2,676 - 89 - 182 Purple - Rehab. - 2,943 - 1,578 76 - 155 Ore 902 785 232 - 140 Tin 1,206 640 310 - 129 Steel 584 818 247 - 144 Bronze 1,388 965 193 - 137 Silver 1,513 907 180 - 128 Gold 1,525 618 51 - 142 Platinum 1,675 628 82 - 134 Diamond 12 M REAPP 6 M REAPP 4 M REAPP 1 M REAPP  

Profitability Matrix for Application Joint Odds

Application Joint Odds 146 126 106 86 66 46 26 0 145 125 105 85 65 45 25 3 144 124 104 84 64 44 24 2 143 123 103 83 63 43 23 1 142 122 102 82 62 42 22 780+ 141 121 101 81 61 41 21 760-779 140 120 100 80 60 40 20 740-759 139 119 99 79 59 39 19 720-739 138 118 98 78 58 38 18 700-719 137 117 97 77 57 37 17 680-699 136 116 96 76 56 36 16 660-679 135 115 95 75 55 35 15 640-659 134 114 94 74 54 34 14 620-639 133 113 93 73 53 33 13 600-619 132 112 92 72 52 32 12 580-599 131 111 91 71 51 31 11 560-579 130 110 90 70 50 30 10 low-559 41+ 35-40 26-34 16-25 10-15 6-9 0-5 Score

New Account FTL’s : Ave Contrib. 220 152 125 92 48 - 16 40 0 90 - 20 - 148 - 251 - 349 - 1,081 - 147 3 - 255 - 386 - 235 - 336 - 422 - 118 - 1,202 2 - 339 - 554 - 385 - 306 - 280 - 260 18 1 434 417 309 263 164 184 457 780+ 443 391 244 215 176 71 5 760-779 410 371 256 214 103 81 - 1 740-759 422 332 217 155 76 54 27 720-739 384 341 226 133 48 29 68 700-719 310 262 182 105 13 8 - 87 680-699 320 323 209 133 85 - 172 - 111 660-679 336 296 213 139 88 - 16 - 140 640-659 357 292 221 149 108 10 77 620-639 357 333 243 164 77 - 38 61 600-619 355 289 230 175 135 211 - 414 580-599 259 262 208 88 110 - 425 143 560-579 291 252 150 142 92 - 51 286 low-559 41+ 35-40 26-34 16-25 10-15 6-9 0-5 Score

New Account Re-apps: Ave Contrib. 317 287 207 149 81 16 - 41 - 7 - 947 - 1,104 - 1,171 - 695 274 - 88 3 - 12,530 - 1,119 - 1,048 - 1,147 - 980 - 1,842 499 2 417 - 5,148 - 3,390 - 1,542 - 2,859 - 2,846 2 1 475 446 324 281 194 219 134 780+ 446 439 325 252 165 - 8 73 760-779 438 403 323 251 176 45 135 740-759 508 391 311 203 97 93 39 720-739 458 403 261 135 78 - 159 - 110 700-719 382 346 232 145 24 8 124 680-699 372 384 260 200 95 128 20 660-679 374 367 251 140 110 60 26 640-659 369 337 219 151 117 91 - 73 620-639 393 364 242 162 145 - 120 - 340 600-619 423 300 199 154 63 - 5 - 1,622 580-599 349 113 121 69 9 188 - 560-579 178 31 103 67 - 22 - - low-559 41+ 35-40 26-34 16-25 10-15 6-9 0-5 Score

Summary & Conclusions

Practical Applications Empirical data for decision making Understanding Profit, CIR, ROE per product per profile Which are the profitable products to promote Which are the unprofitable products to re-price or discontinue Which are your profitable client profiles to target

Empirical data for decision making

Understanding Profit, CIR, ROE per product per profile

Which are the profitable products to promote

Which are the unprofitable products to re-price or discontinue

Which are your profitable client profiles to target

Practical Applications Which are your unprofitable client profiles – restrict credit What are the minimum loan sizes per product for profitability Understanding what approval / bad rates are optimum per product to maximise profits Promoting a product / client profile mix that maximises profits

Which are your unprofitable client profiles – restrict credit

What are the minimum loan sizes per product for profitability

Understanding what approval / bad rates are optimum per product to maximise profits

Promoting a product / client profile mix that maximises profits

Summary & Conclusions

Practical Applications Empirical data for decision making Understanding Profit, CIR, ROE per product per profile Which are the profitable products to promote Which are the unprofitable products to re-price or discontinue Which are your profitable client profiles to target

Empirical data for decision making

Understanding Profit, CIR, ROE per product per profile

Which are the profitable products to promote

Which are the unprofitable products to re-price or discontinue

Which are your profitable client profiles to target

Practical Applications Which are your unprofitable client profiles – restrict credit What are the minimum loan sizes per product for profitability Understanding what approval / bad rates are optimum per product to maximise profits Promoting a product / client profile mix that maximises profits

Which are your unprofitable client profiles – restrict credit

What are the minimum loan sizes per product for profitability

Understanding what approval / bad rates are optimum per product to maximise profits

Promoting a product / client profile mix that maximises profits

CI Decisions Made To discontinue lending the 12 month product to Bronze profile clients To discontinue the 1 month loan product To discontinue lending to rehabilitated clients To migrate as many clients as possible from 4 month loans to the 6 month loans within acceptable risk levels (Diamond to Bronze) To introduce contribution break-even minimum loan sizes on all products

To discontinue lending the 12 month product to Bronze profile clients

To discontinue the 1 month loan product

To discontinue lending to rehabilitated clients

To migrate as many clients as possible from 4 month loans to the 6 month loans within acceptable risk levels (Diamond to Bronze)

To introduce contribution break-even minimum loan sizes on all products

CI Decisions Made To reduce the approval rate on lending to new account profiles, particularly FTL’s and / or introduce a FTL fee of +/- R75 To consider having two credit granting policies for FTL’s & Re-apps using the joint odds matrix, if the FTL fee doesn’t align profitability To migrate more clients to metal profiles by changing the rules for allocating a profile

To reduce the approval rate on lending to new account profiles, particularly FTL’s and / or introduce a FTL fee of +/- R75

To consider having two credit granting policies for FTL’s & Re-apps using the joint odds matrix, if the FTL fee doesn’t align profitability

To migrate more clients to metal profiles by changing the rules for allocating a profile

CI Next Steps Update the model with current data Run a 6 & 12 month model as at 31/03 Review the Credit related decisions with PIC Solutions Update the CI internal application score Run branch profitability workshops with the RM’s Investigate branch optimum staffing solutions

Update the model with current data

Run a 6 & 12 month model as at 31/03

Review the Credit related decisions with PIC Solutions

Update the CI internal application score

Run branch profitability workshops with the RM’s

Investigate branch optimum staffing solutions

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