Activity Based Costing (ABC)
ABC is a more accurate costing methodology that focuses on indirect costs (Overheads). It traces rather than allocates each expense category to a particular cost object, making "Indirect expenses" effectively "direct".
Steps in ABC
- Identify the activities
- Determine cost for each activity
- Determine cost drivers
- Collect activity data
- Calculate product cost
How ABC works in SAP
SAP provides standard solutions for ABC.
- Activities in ABC are the same as business processes in SAP. Within the business process, we have the process of cost allocation i.e., cost driver.
- Cost for each activity can be collected in a business process just like a cost object.
- Quantities for each activity (quantity for cost driver) is the basis for rate calculation of activities.
- Depending on the quantity required for manufacturing a product, the product cost will be computed.
- The booking of Indirect cost (overhead) would be routed through Business Processes.
Collection of Indirect Cost on Business Processes
There are two options available:
- Booking in cost center and then allocation to Business processes
- Direct booking on the business processes
Allocation of Indirect Cost to Product
Allocation takes place for the following purposes:
- Standard cost estimation at product level
- Actual cost booking through template allocation process
Planning in Business Process
- The business process planning is the same as cost center planning, with the only difference being a cost center may have multiple activity types while a business process can have only one cost driver for allocation of cost.
- At cost element level, the planning of input cost and output quantity can be entered in business process; based on that, plan price of cost driver can be calculated.
- At product level, we need to plan and fix the activity quantity for each business process. Based on that, the system will compute the standard cost and also post the actual allocation.
- In business process, the concept of revaluation of actual price at production order level is the same as for cost centers.
ABC Illustration & Demo in SAP
Steps 1, 2, 3: Identification of activities, determine cost for each activity, determine cost drivers.
Traditional Cost Accounting (TCA) vs ABC
TCA: Allocation of indirect expenses/overheads to products is based on volume-based measures e.g., labor hours, machine hours (assumption is relation between overhead and volume-based measures).
ABC Steps 4 & 5: Collect activity data and calculate product cost.
Comparison of Product Cost
Comparison of product cost between Traditional Cost Accounting (TCA) and Activity Based Costing (ABC) reveals significant differences.
Facts Derivation out of ABC
- Contribution for product A is much lower than B and hence product A is a money loser.
- Production facility for product A is under-utilized and it results into high overhead cost burden on existing production of product A.
- Opportunity cost loss for product A is substantial.
Summarization for ABC in SAP
- Identification of direct cost and indirect cost from total cost of product.
- For indirect cost, we need to find out the process/activities, and cost drivers for that process.
- Planning of activity quantity for processes.
- Existing process of standard cost estimation to be reviewed and cost allocation for indirect cost to be deactivated and ABC way of cost allocation to be configured and tested.
- Review of calculated cost through ABC.
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