Wednesday, July 11, 2012

Cause and Effect Profitability Management Solution


Yes, I have not written for a while, but one question was disturbing me for quite a long time now. Especially after looking at few software solutions for Activity Based Costing. Some of them are now called Profitability and Cost Management solution. The question is, do we need to have structural compartments (aka Modules) like ‘resource’, ‘activity’ and ‘cost objects’ in those solutions? I understand that all those solutions have been designed quite a few years back and they are mostly based on the CAM-I cross.

 

The CAM-I cross told us that the vertical flow is the cost flow and it flows from resources to activities to cost objects. Cost objects are the final destination points for which we calculate costs for. As such the Activity Based Costing requires three phases as resources, activities and cost objects. All the software solutions based on this concept created in there solutions three modules as the same. Also the diagram also shows that the cost flows from resource to activity and activity to cost objects. Again the solutions had assignments that can have cost flow like resource-activity, activity-cost object or resource-cost object. Some of the solutions have resource-resource, activity-activity or cost object-cost object assignment (intra-module) facility. Almost none (actually I wanted to write ‘none’ here, but I cannot claim that I have seen all the solutions) of the solutions have cost assignment possible (directly) from activity-resource or cost object-activity or cost object-resource. Where ever it is possible, one has to create some work around to handle this.

I certainly do not want to say all this is bad. But it was based on the concepts and methodologies adopted at that time. It is more than 20 years that the concept has been around. We have seen many changes in the Body of knowledge, implementation methods, uses and software solutions in those years. Few things still remain as they were earlier like

1)      The solutions are having resource, activity and cost object as structural divisions.

2)      The follow up of this is, assignment are not possible in the reverse order (as direct functionality)

Scenario

Let us take one example of distributing the cost of ‘shared service functions’. These functions like HR, Admin or IT provide services all other functions in the organization. To distribute their cost based on the ‘cause-and-effect’ relationship, we create following steps

a)      Define the services provided by those function. For example recruit people, manage hotel booking, manage software solutions.

b)      Calculate the cost of each of these services

c)       Assign cost of those services based on the volume of the services consumed by each of the other functions

d)      This cost is as good as the other expenses (like employee cost, travel cost etc.) of the functions

This scenario cannot be created as it is defined here as a direct functionality.

Some of the software solutions where one can create intra module assignments, here is one of the ways

i)                    Enter cost of the shared services in the resource section

ii)                   Define the services of the shares service function in the resource section. Actually they are processes or activities.

iii)                 Calculate the unit cost of services. Resource-resource assignment.

iv)                 Assign those services cost to other functions resource-resource assignment

Some solution that do not have resource-resource assignment facility, but activity-activity assignment facility

i)                    Enter cost of shared service function in resource section

ii)                   Define services of shared service function in Activity section.

iii)                 Calculate the cost of the services

iv)                 Assign those services to the activities of other function that are consuming those services. Activity-activity assignment

Similarly the cost of Procurement department has to be calculated as vendor wise-material wise and then takes as additional cost of the material. This scenario will also require a big juggling in creating the model in the solutions.

The absence of the other functionality that of flowing cost in the reverse way i.e. cost-object-activity, activity-resource (as a direct functionality) is creating a challenge. This is especially when one has to create the ‘bottom-up’ model or Activity Based Budgeting/Planning (ABB/P) model.

Activity based costing is based on the concept of ‘cause-and-effect’ relationship. As such there should not be any restriction on what is a source and destination. Actually I am suggesting that there should not be a rigid concept of ‘resource-activity-cost object’. All these sections should be logical. User should be able to create as many sections as she wants and call them whatever she wants to. Once this restriction goes then we call the solution as ‘Cause and Effect Profitability Management Solution’.

This type solution can be used for single level assignment of costs or multilevel assignment (2, 3 or even more). One need not worry about the concept of whether it is resource or activity or cost object. Just select ‘source’ and ‘destination’, link them, add driver and driver quantities and calculate.

I have called this solution as Profitability Management solution (not only cost) purposely. Profit is a function of Revenue and Cost. Most of the solutions are built upon the concept of cost assignment. What I mean is, those solutions allow us to create a flow of cost. Revenue is directly entered against product-customer-channel combination and profitability is calculated. This was based on the concept that is related to manufacturing industry In the Telecom industry the revenue is bundled for many services that are used by the consumer it is very difficult to create a profitability scenario. A lot of free services (completely or partially) are also included. There is also volume based revenue for certain services. If we try to use the usual functionality of the software solutions, it is very difficult to create this scenario. So the solutions should have the functionality of calculating multiple measures (cost, revenue, discount etc.) based on ‘cause-and-effect’ relationship to calculate profitability at the end.

The flow of measures is based on ‘cause-and-effect’ and it contains the functionality to flow the information for all the measures that contribute to Profit. Hence the solution should be ‘Cause and Effect Profitability Management Solution’

The benefits this type of solution is full flexibility of modeling for profitability. It could be single level or multi-level. We can calculate standard costs (multi-level calculation) and then compare with actual. More than the usual variances of quantity, rate, mix etc. can be available. We will be able to use the same solution for Revenue planning and it can become a real Profitability Management solution as it can plan and get actuals to analyze the variances in Revenue, cost and hence, profit.
Please provide your comments or suggestions on this concept of the solution. I have not seen all the software solutions in their current forms, so some of the functionalities may be already available. Is there a solution already in the market which can be called as ‘Cause and Effect Profitability Solution’?

Friday, April 1, 2011

Activity Based Management (ABM) and Enterprise Performance Management (EPM)


Now a day one can hear about the term Enterprise Performance Management (EPM) a lot of times in different ways. It also termed in different ways like CPM, EPM, PM etc. Sometimes it is also used interchangeably with the individual performance and organizational performance. There are various definitions also for EPM. I personally like the definition by Gary Cokins, which mentions that Performance Management is the process of managing the execution of an organization’s strategy. It integrates the business improvement methodologies with technology. So it is neither the methodologies only nor the technology in isolation.

As I have mentioned in my earlier posts, Activity Based Management (ABM) is the way to manage your business by managing the activities to provide improved value to the customer or organizational performance. After these definitions, we will try to see how these two things go together in different ways as concepts, execution and technology.

I personally believe that the EPM starts with the definition of the strategy. This is because if you do not know where you want to go, any way is a good way. Let us have a look at the following figure:





Defining the strategy for your organization, preparing business plan according to the strategy and then measuring the performance and analyzing the variances with reasons to modify the internal processes or strategy is a cyclic process. ABM fits into the ‘Measure and Analyze’ part of the cycle. Here the ABM model based on the business plan can provide the information on the resource requirement in the future as well measure the actual performance. Once you analyze the actual performance against the planned one, the same can be analyzed using various techniques like root cause analysis, continuous improvement etc. The analysis will tell whether one has to manage the processes to improve the customer value or organizational performance.

The performance management is also seen as the operational performance management or strategic performance management, as it is mentioned in the earlier part.



 

Operational performance management is looking at the processes to improve organizational performance and strategic performance management is looking at the processes to improve the value to the customer. The ABM model can be designed to manage the performance at both the levels. It can also be used for some tactical purposes as managing a customer segment or a product group etc.

Looking at all those things the tool vendors have combined their software solutions into one group as Enterprise Performance Management (EPM) suite. This suite generally includes the solutions for Strategy Management, Business Planning and Profitability & Cost Management. They project and try to sell these solutions as a suite. I have got the following figure from some document that I am not able remember, so please acknowledge the efforts of the person who has created it (if somebody knows it pl let me know, so that I can put the name in the acknowledgement).



In a very simple way, we will try to understand this diagram. It shows three differnet parts. Analytical toos as in the technological part that help us to alanyze the results. One may argue as to reporting is not exactly same as analytics. The second part is the analytical appliactions which are actually the software solutions based on the various business improvement methodologies. The third part is supporting tools ahich ehlp us to integrate the data and perform the administrative part for those solutions. All these solutions work on the same data mart or warehouse so as to provide one view of the data and these solutions use and provide data to the othersolutions through this data mart or warehouse.

If we see the Strategy Management methodology creates a strategy map, the Key Performance Indicators (KPIs) and corresponding action plans. Based on the strategic plan the budgeting and planning solution can create the business plan. It can also use the Profitability management solution (ABM) to create a driver based planning. ABM can also provide the actual values for various KPIs defined. The Activity analysis using the cost drivers and performance measures can provide information the performance of the organization vis-à-vis the planned one.

As we saw ABM fits into Enterprise Performance Management (EPM), conceptually as well as technologically and helps the organization to manage the performance at the strategic level as well as operational level (including the tactical one).





















Tuesday, March 1, 2011

Should an organization use Activity Based Costing (ABC) when it is already making profits?


It is a common notion that an organization should seriously look at the costs when it is in a serious trouble. This trouble could be that they are making losses or a competitor has come with a similar product with lower price or a possibility of losing an order because of pricing. Cost is also seen as something that has to be reduced in any case. Generally because of this an organization is serious about understanding costs only when it seems to be making losses.

I have also mentioned in my earlier postings that when somebody talks about costing it is about the Product Costing. The management accountants have been trained professionally to take each and every unit of expense to the product. This is not true with any kind of business. There are some costs that caused by the products/services, some are caused by customers, some are caused by running the business and not related to any product or customer are some caused by the installed capacity. One should be able to segregate costs in the according these causes and relate them to the profit/loss the organization is making.

Activity Based Costing (ABC) has a word ‘Costing’ in it, so the same question arises for its use in the organization. ABC is based on the concept of ‘cause-and-effect’; hence it separates the costs that related product, customer, business and unutilized capacity. Even within the product and customer related costs, they are apportioned based on the consumption. With this calculation the organization can understand the costs related to the products, customers, channels etc. and take proper decisions based on the information.

To explain this, let us see the following diagram. This diagram shows the relationship between cost of products with traditional costing and ABC.



The horizontal dotted line in the diagram represents the cost of products according to the traditional way of costing and the ‘S’ curves represents the cost of products using ABC. It is generally seen that few products are grossly ‘overcosted’ and more than that products are grossly ‘undercosted’. The products that are overcosted have more cost up to 50% and the products that are undercosted have costs less up to 500%. The primary reason for this incorrect cost calculation is that generally the overheads are taken based on the volume produced. The complexity of product is not considered. It is seen that the change in the overheads of the organization is related to the additional complexity of the business. This complexity could be added due to more products, more customers, more channels etc. It can also be introduced due to the complexity of the product features. This is complexity is generalized in the traditional costing and the same is converted into a logic for apportioning the overheads in ABC. It is generally seen after the ABC modeling that the organization is almost shocked after looking at the results. This is due to the fact that the products those were ‘dear ones’ earlier start looking loss making and vice-a-versa.

We will see another diagram, which is called with different names like profit cliff, whale diagram, profit umbrella etc. This diagram depicts the products or customers on the horizontal axis and the cumulative profit percentage on the vertical axis. This diagram can be plotted for products as well as customers. The following diagram is taken from one of the book written by Gary Cokins, who is an internationally known expert on Performance Management.



In this diagram the horizontal axis represents the products and the vertical axis represents the cumulative profit in USD millions. The current profit shown in the financial records is $ 2 mn. If we start analyzing the diagram, we can see that the same $ 2 mn is achieved by first 13% of the products. So from the products that are making most of the profits top 13% give you the current profit of $ 2mn. The story does not end there. The top 65% of the product by profitability provide the organization a profit of $ 8 mn (400% of current 4 2mn). Then there are some products are neither profit making nor loss making. And almost 15% of the products which are actually making loss, bring the profits from $ 8 mn back $ 2 mn.

So on the face of it the organization is making a profit of $ 2 mn. It may be also happy with that profit, but then it is not realizing that the potential of the organization is $ 8 mn and not mere $ 2 mn. With the use of ABC and then plotting this graph the organization can realize its potential. It can also understand the loss in profit it is making. More important that this, it will also understand which products are bringing the profit and which are taking away. A similar diagram for customer profitability shows which customers are profitable and which are taking away the profits.

This is where the ABC that is the costing part ends and Activity Based Management (ABM) starts. In ABM the organization looks at the costs analyzes them and takes proper action on the same. For the organization uses various techniques like root cause analysis, benchmarking, cost driver analysis etc. to understand the reason behind the profits or losses. So we not only understand ‘who/which’ are making profit and loss but also ‘why’ they are. Based on this information the organization can take series of actions so that it can optimize the profits by selling its best products to the best customers. It can also take actions to promote the loss making products/customers to profit making.

With these actions the organization can reach as near to its potential profit as it can. But the first and foremost understanding the organization must have is its profit potential. This potential is brought forward by using the ABC methodology. So even if know you are making profits and you are happy with the number, think again is that the real profit potential of your organization?





















Tuesday, February 1, 2011

Strategic ABM (Activity Based Management) and Operational ABM


We will start with definition of Activity Based Costing (ABC). According to the CAM-I (www.cam-i.org) the definition of ABC is ‘method of costing products through costing the activities’. In ABC we calculate the cost of activities firs and then the cost of products. This does not mean we can calculate cost of products only. It is based on the concept ‘cause-and-effect’. The cost objects (products, customers etc.) consume activities. This means we perform activities for products, customers etc. The activities consume resources i.e. the resources (people, facilities, expenses etc) are utilized to perform the activities. Based on this logic the cost are flown to the products, customer etc. Generally the costs are can be grouped into product related, customer related, unused capacity and the rest are ‘business sustaining costs’.

Activity Based Management (ABM) is a methodology to manage your business. It is like various management techniques that have emerged over a period of time like Management by Objectives (MBO), Management by Exceptions (MBE) etc. Let us see the definition of ABM: it is the method to manage your business with managing your activities to improve operational excellence (internal) or value provided to the customer (external). ABM is calculation of costs with the ABC method then analyze the data and take action on it to improve your business performance.

ABM can be used to understand and improve the performance at all the levels in the organization. It can be used to take decisions about the products, customers etc (Strategic use). It can also be used by a head of the department to manage her portfolio of products or customers (tactical use) or to improve certain processes (operation use). Based on these uses few people have segregated it as ‘Strategic ABM’ and ‘Operational ABM’.

Strategic ABM – ABM can be used for the purpose of taking strategic decisions like adding or retiring products, acquisition or retentions of customers etc. These decisions are based on the profitability information calculated using ABC method. This information is historical information of profitability. This historical information coupled with the future trends, competition etc can help the organization to take the decisions. In other words it is ‘doing the right things’.

The ideal way of performing for an organization is to sell best of their products to best customers. For this the organization has to understand which their best products are and who their best customers are. ABC helps the organization to find their best products and customers as per the profitability. Once the organization has to find out the profitability, it can then group them into deciles (make 10 groups according to their profitability numbers). Each of deciles can be analyzed for products and customers as to what are the reasons for those to fall into that category. Then various action plans can be taken to move them from lowest of the deciles to the highest. As I said this is a historical data of profitability, one has to look for the potential future trends and couple them with current (and historic) data to take the strategic decisions.

ABM models for Strategic ABM are at a comparatively gross level. The activities are defined at almost a process level. Now a day we can calculate the profitability of the products even at SKU (stock keeping unit) level, in the hierarchy LOB-Product Group-Product-SKU. We can also calculate the profitability at account level in banks, subscription level in telecom. This can be grouped at the customer level, household level or other customer segments.

Operational ABM – In this case the use of ABC information is for improving the performance of various operations (processes) in the organization. The process is nothing bust various activities performed in a sequence by one or more functions in the organization. In this case various activities are tagged as ‘value add- non value add’ or ‘core, discretionary or sustaining’ and based on the analysis the activities are eliminated. Here I remember a methodology explained by Gary Cokins as:

a) See if the activity is required by the customer (internal or external). If the activity is not required then eliminate the activity

b) For the rest of the activities see if you reduce the recurrence of the activity. That means see if you can reduce how many times you have to perform the activity

c) Once this is done go one level down i.e. at the task level and repeat the steps mentioned above.

The activity costs can be analyzed by finding their ‘cost drivers’. Cost drivers are the causes of costs for the activity and typically ‘unit cost’ of the activity. For example;




When one wants to improve the cost of an activity, one has to work on those cost drivers. Once we analyze and take action plan to improve on those cost drivers we can measure the performance of the activity. Performance can be measured by at least three ways 1) productivity 2) cycle time 3) quality. This actually forms the horizontal view of the CAM- cross which is also called as ‘Process View’.

Sometimes the cost driver is used interchangeably with the resource driver and activity driver. The resource and activity drivers are nothing but the logic with which the costs are taken from resources to activities and from activities to cost objects.

ABM models for operational purpose are more detailed in the ‘Activity’ section. Here the level is taken to tasks. Most of the times these models can be created for each process separately. If you try to model everything in one then it may create implementation and maintenance issues for the model.

I have seen some of the consultants that do not use any software solution for modeling; it is very difficult for them to calculate the product, customer profitability in detail. They use the information of activity costs to improve the performance of the processes. So the ‘Strategic ABM’ and ‘Operational ABM’ are not altogether new concepts of ABM, but it is just what the concept is used for.

Saturday, January 1, 2011

Shared Service Costs using Activity Based Costing (ABC)


First of all, I wish you and your family a very happy and prosperous new year.

A shared service is an operational philosophy that involves centralizing administrative functions that were once performed in separate divisions or locations. Services that can be shared among the various business units of a company include finance, purchasing, HR and information technology. Shared Services is a service model designed to gain efficiencies in routine processing by leveraging common practices and enabling technology. In the earlier days the costs were not significant, but because of the IT services it has gone up. In some of the financial services companies or telecom companies the cost of IT function contributes more than 25% of the costs.

The primary objective of forming the share service departments is to leverage the economies of scale to improve the cost as well as the productivity of the departments. Some of the other drivers for moving to shared service model are a) Process standardization b) Process improvements c) headcount reduction d) Improve service levels e) Increase control f) in case of mergers it is used to capture the synergies. All these objectives look logical as well as moving towards the improved performance. But still the recipients of the services do not seem to be happy with the costs. This is generally because there is not transparency in the calculation of the cost of the services. There is also no relationship seen between the volume demand from the business units and the cost of the services.

The typical method of allocating these costs to the business units is headcount, capital employed, revenue, area occupied, # of users, # of workstations etc. These statistical keys may not always relate to the volume of the services received by the business unit. The planning of the shared services is also not in line with the business volume planning of the units. With this situation the utilization of the shared services is not in line with the business units’ volume requirements.

The chargeback system for the shared services should be

a) Equitable – It should be fair to all the recipients. There should not be any kind of cross-subsidization among the business units. This may generally happen when the basis of distribution of cost is ‘Revenue’ or ‘Headcount’. The business units should pay for the capacity of the resources they use. The underutilization of the shared service department should be charged to the business units. This overcapacity can result as there is no relation between the requirement for the business units and the resource planning by the shared service departments.

b) Repeatable and Accurate – The cost of the service should be the same irrespective of the time. It should cost the same across the year for the same volume requirements. Assuming the same input it should consume the same level of resources every time.

c) Understandable – Both the service provided and the business units should understand the methodology of charging the costs.

d) Predictable – The business units must be able to predict the costs of the services. They can plan for the higher volumes if required. In turn the service provider can plan the resources as per the requirement of the business units.


Activity Based Costing (ABC) can be the answer to reduce the conflicts between the service provider and the business units and also fulfill the requirements for the good cost allocation method. In ABC the model for shared service cost calculation can consider various shared service departments like IT, HR, Procurement, Facilities management and define their services (as activities) and business units as the Cost Objects. Sometimes the services provided can be defined as the ‘Services’ in the Cost Object and Business units as the ‘Customers’. In that case the activities are the various steps for completing the services. Some of the consultants create a separate model for the shared service cost calculation only. The final model starts with the resource costs as per the cost center accounting plus costs from the shared service model.

Let us consider the various services that can be defined for the departments.

a) Accounts payable – Vendor payment, employee reimbursements

b) Accounts receivable – Billing, accounting for receipts, ageing reports

c) HR – Recruitment, training, grievance management, performance measurement, payroll

d) IT – Application management, infrastructure management, help desk – applications, help desk – hardware

e) Corporate services – Travel management, facilities management, internal functions management

In the first step the demand for various services is collected from the various business units. Based on this demand and the various activities required and the time taken by various activities the total resource requirement is calculated. In this way the resources of the shared service departments can match with the business plan of the business units and they can plan for the resources for themselves. This in turn saves the business units being charged for the unutilized capacity of the shared service departments.



Once this demand is converted into the resource requirement and the same is planned for, the second step is calculating the cost of those services. For the all the costs for the shared service department is accumulated as a cost center. Care should be taken that these shared service department as providing services to the other are also receiving services. For example as IT department is providing services to HR, it is also services from HR department. This ‘reciprocal’ assignment of cost should be modeled properly. Once all those costs are collected, they flow through the ABC model and calculate the unit costs for each of the service. Then based upon the volume of services availed by the business units the cost is allocated to them. In this way even if there is any excessive capacity in the shared service department, it is not transferred as cost to the business units.





In this way the business units can see the unit cost of the shared services and they can either question the shared service departments for the same or if allowed they can avail the services from the third party. Sometimes the ‘Employee self service’ program is also taken by the business units. In this program the employees perform the services for themselves. This reduces the cost of the organization and the satisfaction levels can be matched. The performance of the shared service departments can be improved by creating the ‘Service level agreements (SLAs)’ and/or defining the performance indicators for the services. At least three types of performance indicators can be defined.

1) Productivity type – Cost per service

2) Cycle time type – Time taken to perform the service

3) Quality type - % of times the service is provided with required quality

Activity Based Costing (ABC) models for shared service departments help the organization to achieve their goals for the initiative as well as provides transparency in allocating costs and utilization of resources of the shared service departments. The planning of the shared service departments can happen in line with that of the business units.















































Wednesday, December 1, 2010

Activity Based Planning (ABP)


The uses of Activity Based Costing (ABC) can be stated as 1) Understanding of Product, Customer and Channel Profitability 2) Understand the cost of processes and the drivers for those cost 3) Activity Based Planning (ABP). We have seen in the earlier posts a good amount of information on the first two parts of the uses. Today we will talk about the third part that is Activity Based Planning. Activity Based Planning can be divided into two parts a) Activity Based Resource Planning only b) Activity Based Financial Planning.

Activity Based Resource Planning helps to understand the requirement of resources based on the forecast done. In the Activity Based financial Planning, resource as well as costs and revenue are also included to understand the complete profitability for the future period. We will discuss the various steps in this process. The prerequisite for creating the ABP model is that the organization should have a running ABC model.



Once the strategic plan has been finalized for the organization (which may state what kind of products to be provided to which customer segments via which channels in the various geographies), it will help the sales function to convert it into the demand. This forecast will be used as the starting point for creating the ABP model. The cost objects as products, customer and channel combination will have the quantities from the sales forecast. These quantities will in turn back calculate the volume of various activities to be performed to fulfill the requirement of various customers. The relation between the products, customer and channels and the activities is used from the ABC model in the organization. In the same manner the resource requirement is calculated from the activity volume. This resource requirement generally talks about the volume of various skills required. For example, 1200 hours of Lathe, 3000 hrs of Sales executive etc. We have to compare this resource requirement with the available resources and see if it fulfills.



If the resource requirement does not match with the availability of the resources then we have perform some operational adjustments. These could be of multiple types.

A) Capacity adjustments – If the required resources are more than the available then we may hire more or we can also transfer skills from other functions where there is excess capacity and the cross-functional transfer is possible. If the available resources are more than the required then one has see if there is scarcity in other functions and if the resources can be transferred there. One has to also see the seasonality of the business, before taking any drastic steps with respect to the excess resources.

B) Consumption rate adjustments – This is nothing but the driver quantities as in ABC. In other simple terms how much time is taken for various activities or how many times an activities is performed to provide a service to a customer. With respect to time taken by activities, internal benchmarking is very useful. You can compare the timing in other plants, branches, location etc. One can also look at the ‘non-value adding’ activities and try to eliminate them. Sometimes few of the customers are making you perform certain activities or their recurrence which is not adding any value to you. In that case a discussion with the customer to make them understand the same is useful. It is also seen that a ‘menu based’ pricing is adopted. One has to understand that even if the customer is ready to pay for the activities, you may face the resource crunch; it is just that you get paid by the customer.

C) Demand adjustments – Once both the above mentioned adjustments are done then we can think of adjusting the demand. This could be increasing or decreasing. Increasing the demand means getting more market share or creating more market segments (by adding customers, regions or products). This has to be seen in conjunction with competition. Reduction of demand because of scarcity of the resources also has to be seen in multiple ways. It may be so that the demand in the market is temporary. If it is a sustaining requirement then investment in the machinery, people etc. can be seen.

As we have seen the adjustments are not always easy as talked here. One has to consider various possibilities and SWAT analysis should be performed. Also it is not so that the adjustment has to be done in this sequence only. Practically it would be various steps with a combination of adjustments.





Once the operational adjustments are competed, we start entering the financial information. The rates for the products or the total revenue, the costs of the resources etc. Once this information is entered we will get the predicted profitability of the organization. This is a combination of product and customer profitability. This value calculated is the result of the strategic initiatives out into action. One may find that the best of the strategy at any point nin time may not be giving you the best of the returns.



If the target for the profitability is not achieved then we can perform the financial adjustments like reducing the resource costs or increasing the price. Both of these could be very difficult to achieve. A practical combination of the same has to be performed.


This is an iterative process of adjustments. The various steps of adjustments or combination of the same can be saves as scenarios. The final accepted model is used as the planned model and the actual results are compared with the same.

In the usual financial budget we perform the comparison of the actual expenses against the plan one, GL account by account. With this comparison the manager is provided with information of favorable or unfavorable variance. With this information the manager can be happy or sad. She can never be wise. He never gets the information how well she has utilized the resources. The comparison of the ABP model with ABC model gives the variance of price, cost as well as resource utilization, activity variance etc. This helps the organization to revisit the strategic initiative to reach to the expected returns from the business.