Activity Based Costing

Activity Based Costing is a technique for building cost models that allow management to understand the potential effect on profitability of a range of management actions. These include improvements to process efficiencies or outsourcing; changing product or service price structures; selecting distribution channels; restructuring product portfolios or customer segments. It relates costs to the drivers or the causes of the costs and does not depend on arbitrary and non-causal cost allocations.

ABC is particularly relevant to financial service industries where a great deal of product and customer cross-subsidising tends to cloud clear understanding of profitability and lead to depressed profitability.

Selected Radley & Associates experience of ABC in Financial Services:

• Implemented a full ABC model in a UK retail bank leading to extensive restructuring and a radical change in management culture
• Built an ABC model of a commercial banking operation within two months as part of a strategic review
• Advised a UK clearing bank on their ABC programme
• Introduced ABC to credit card operations, IT departments and private banking operations in Africa, Italy and London
• Developed an ABC model for a top 3 global telephone company, addressing similar product portfolio and pricing issues to those facing banks

Some business issues addressed using ABC:

• Pricing structures
• Channel strategy
• Branch network strategy
• Capital allocation strategy and process
• Process efficiency, in sourcing and outsourcing
• Product portfolio strategy
• Customer and customer segment attractiveness

ABC technical issues addressed:

• How to combine ABC with risk capital allocation to provide properly costed RAROC measures at product and customer level?
• How to treat branch costs?
• How to treat the costs associated with providing infrastructure and network capacity?
• How to define activities to allow maximum flexibility of output?
• How to build the Cost Object hierarchies to allow scenario analysis?

ABC implementation issues addressed:

• How to frame the model to address the issues of senior line management?
• How to structure and administer time-split questionnaires to minimise participant resistance?
• How to educate line management to interpret and act on the ABC output?
• How to overcome line management scepticism regarding the 'black box' nature of most ABC models?

Our People

• Worked with Prof. Robert Kaplan in case studies on which ABC was founded
• Ran the European Centre of Excellence for ABC at Gemini consulting, then the leading consulting firm in the ABC field
• Built probably the largest and most complex ABC model in the UK - as well as many very simple models