What You Need to Know About Textbook vs. SAP R/3 Activity-Based Costing

  • by Janet Salmon, Product Manager, SAP AG
  • November 15, 2003
The case for Activity-Based Costing (ABC) goes something like this: Traditional accounting methods do a good job of calculating product costs for the purposes of inventory valuation for financial statements, but a poor job of allowing a cost accountant to validate the cause-and-effect relationship assumptions on which managers base their daily decisions.

The case for Activity-Based Costing (ABC) goes something like this: Traditional accounting methods do a good job of calculating product costs for the purposes of inventory valuation for financial statements, but a poor job of allowing a cost accountant to validate the cause-and-effect relationship assumptions on which managers base their daily decisions.

Most accounting systems can attach direct costs such as material and labor costs to the product, but resort to fairly arbitrary methods when it comes to assigning indirect costs to the product. These costs include procurement, quality management, maintenance, transport, shipping, and so on. The same accounting systems might apply sales and administration costs arbitrarily to the company’s customers, brands, or product lines. The problem is not confined to manufacturing. A service organization also needs to constantly evaluate its pricing and customer targeting decisions.

ABC, it is argued, moves away from arbitrary methods of cost assignment by asking what causes the costs to be incurred. For example:

  • Instead of treating purchasing expense as a percentage overhead, an ABC practitioner would ask whether components are beingspecially procured for some products, where others use standard components.

  • Instead of treating sales as a percentage overhead, an ABC believer would ask whether the customer requests complex configuration before placing an order or simply accepts a standard product.

  • Instead of using an assessment cycle to distribute customer service costs to all segments equally, an ABC site would ask which customers regularly change their orders, order in unusual lot sizes, call the hotline, or need to be chased for payment.

Janet Salmon

Janet Salmon joined SAP in 1992. After six months of training on R/2, she began work as a translator, becoming a technical writer for the Product Costing area in 1993. As English speakers with a grasp of German costing methodologies were rare in the early 1990s, she began to hold classes and became a product manager for the Product Costing area in 1996, helping numerous international organizations set up Product Costing. More recently, she has worked on CO content for SAP NetWeaver Business Warehouse, Financial Analytics, and role-based portals. She is currently chief product owner for management accounting. She lives in Speyer, Germany, with her husband and two children.

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