Introduction
The objective of this essay is to elaborate the importance of customer profitability analysis for the management accountant and for today’s business. Perhaps more than any other information, organizations would like to know the profitability of their product, customers, and any other business segments. Organizations want this information to decide what segments to drop and add value and which to emphasize. This essay will help us to have a firm grasp of the importance of customer profitability analysis in today’s business world.
Reason for the choice of Customer Profitability Analysis
Most of the study based on advance cost accounting and activity based accounting is focused on alternative cost methodologies and the major attention
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The advanced costing techniques used to develop product costs are equally applicable to other cost elements, especially customers. According to the article, an effective cost management system provides information not only on the basis of cost input but it also includes strategic, customer issues and product life cycle, which will be relevant to the decision on discontinuation of any product. This article segregates the analysis of customer profitability into assigning the costs to products that means customers who purchase high cost products are charged properly by applying the costs against the customers mix. The second step is to assign to customers expenses and assets that are driven by marketing and sales process, the result will be a total cost associated with customers and lastly, this cost is compared with customer’s revenue stream to establish profitability. The analytic tool used to develop customer and product profitability analysis is Resource Costing, which simply combines activity analysis and direct costing techniques to assign resources in a logical way to customers or to products that includes assigning cost to customers, markets, or channels of distribution and finally assigning the cost on the basis …show more content…
Customer Profitability Analysis assign sales, general and administrative costs and resources to the customers groups, that helps in making more profitable budget allocation decisions and to simulate the impact of decisions, such as price adjustments and resource allocation decisions, on the potential profit contribution of their customer base, thereby strengthening the decision-making process and enables long term organisational profitability by maintaining customer relationship and satisfaction (Gupta and King, 1997). Apart from helping better decision making, customer profitability analysis also helps in motivating managers and employees by providing volume of relevant information. Organizations that may not benefit from Customer Profitability Analysis include those whose costs to serve are small and pre-sale and post-sale services are not important in gaining a competitive advantage. This would be the case in organizations whose customers are relatively homogeneous or indistinguishable. In such rare cases, customer gross margin may be sufficient to obtain Customer Profitability Analysis benefits (Cooper and Kaplan,
Activity-based costing (ABC) is a costing method that is usually used as a supplement to a company’s usual costing system, and is therefore used for internal decision-making. It is designed to inform managers of costing information for decisions (strategic and others) that potentially affect capacity and consequently “fixed” as well as variable costs. In addition, ABC can also be used to pinpoint activities that would benefit from process improvements.
An organization costing system is a system that helps the management with the strategy planning while the system plays an important role in providing accurate cost information about the products and customers (Curtin, 2006). UPS utilizes the Activity-Based Costing (ABC) system. ABC assumes that activities cause costs and that cost objects create the demand for activities (Marx, 2009). The key to cost allocation under ABC is to identify the activities that are performed to provide a particular service and then aggregate the costs of the activities (Gapenski, 2012). This is a marked departure from the practice of sharing overheads costs equally or overheads becoming part of the overall profit-loss estimate instead of component product pricing (Nayab, 2011).
RBC Financial Group uses a customer relationship management (CRM) strategy that provides a variety of services for a variety of clients. The strategy allows for individual customers to trust RBC and develop a personal relationship with each and every client. One major factor that allows CRM to operate effectively is the use of technologies and analytics to help classify each client’s financial situation. These customer profitability-based techniques allowed RBC to categorize their clients into A, B, and C groups so that the sales teams could optimize their efforts in catering to these different clients. This strategy holds the following strengths: optimizing sales efforts to different customers, easily accessible electronic sales leads, centralized and standardized financial decisions, and building personalized and sustainable customer relationships. There are a few weaknesses to the system though including the complexity in predicting future positions of companies despite the use of analytics as well as the complexity in creating consistency when using these
For instance, ABC might identify a distribution channel as non-remunerative or non-value adding. Such channeling might however be non-profitable, but aid in achieving some other strategic objectives. Conclusively, the review of activity based costing benefits and shortcomings suggests that although ABC has many uses and has aided in renovating many firms, the establishment of lean accounting methods such as Economic Value Added and Balanced Scorecards that focus on eradicating cost allocations and permit thorough accounting, measurement and control systems, has made activity based costing tend to become obsolete. However, ABC still has many supporters, notably in some business-intelligence software applications and the US Marine
We probably all agree that the primary objective of any business is to achieve revenue and attain a certain profit. But then here is the question that we might ask, is profit the only element that should be considered when making business decisions? In my point of view the answer is no as I will try to demonstrate throughout this paper. One quick alternative of what should be the first top priority of a business is creating a customer as Dr.Peter Drucker said. According to him “The customer is the foundation of a business and keeps it in existence. He alone gives employment. To supply the wants and needs of a consumer, society entrusts wealth-producing resources to the business enterprise.” (Santayana, George. Is The Tyranny Of Shareholder Value Finally Ending? )
It was the year 1987 when the Gartner Group popularized the form of full cost accounting named Total Cost of Ownership (TCO)(author, Gartner Total Cost of Ownership). Originally TCO was mainly used in the IT business sector. This changed in the 1980’s when it became clear to many organizations that there is a distinct difference between purchase price and full costs of a products ownership. This brings us towards the main strength of conducting a TCO analysis, besides taking the purchase costs into account, which consist of the amount a money an organization pays for the required service, product or capital outlay. It also considers 1. Acquisition costs; these can consist of sourcing, administration, freight, and taxes. 2. Usage costs, which consists of the costs associated with converting the given product or service into a finished product. And finally 3. End of life cycle costs; the costs or profits incurred when disposing of a product. TCO can be seen as a form of full cost accounting; it systematically collects and presents all the data for each proposed alternative.
This, in order to identify what are the true costs of each customer and each order, enables the company to fully understand its cost structure thereby providing the base for better business choices and higher profitability. These are very sensible goals indeed. Even though the company is profitable, implementing a new, activity-based cost accounting system will allow the company to improve its margins and become even more focused and competitive in the future. 2.2. What is the difference between a.... ...
"College Accounting Coach." Process Costing-Definitions And Features(Part1) « Process Costing « Cost Accounting «. Feb. 2007. Web
The contained paper has been prepared with objectives of elaborating over the three different costing methods namely, Absorption/Full Costing, Variable/Marginal Costing, and Activity Based accounting. The first segment of the report seeks to define and illustrate the costing methods based on the personal understanding of the writer gained through the class room and the academic readings. Part two of the report takes a form of short essay, written critically to evaluate the application of standard costing and variance analysis to any size of business, and concludes with a verdict that whether or not standard costing and variance analysis is applicable to each business with consideration of its costs and benefits of the system.
Activity-based costing (ABC) is a costing method that is designed to provide managers with cost information for strategic and other decisions that potentially affect capacity and therefore “fixed” as well as variable costs. Activity-based costing is mostly used for internal decision making and managing activities while traditional costing method is used to provide data for external financial reports. Most organization uses activity-based costing as an addition system for using traditional absorption costing as sometimes the traditional cost system misleads the product’s profitability. In a company, there are many products on sale, if one product is sold at a high price with low product margin and a product with high product margin at a low price, it may result in a loss. In addition, due to the reason that cost drivers and enterprises business may change, activity-based costing analysis also needs to be revised periodically. This amendment should be prompted to change pricing, product, customer focus and market share strategy to improve corporate profitability.
g is an important tool that can help management in making informed decision. Though it is not legally required but still it is necessary to run an entity effectively. Cost accounting is turned toward the future. There are different methods of costing in Cost Accounting: Absorption costing and Variable costing. Both have some merits over the other.
Job costing involves usage of situations where every job is done cost differently, consumers specifications play a bigger picture in this case. Direct and indirect costs are encountered. It is believed that job costing has lots of costs accrued from the production to the consumers (REEVE, J. M., WARREN, C. S., & DUCHAC, J. E. 2012). This involves labor, running of machines, and all the individuals who are involved in the production of a product from raw to the final product, indirect costs are applied in this order. Job costing order is best showcased in a manufacturing company, let’s take coca cola company, company specialized in beverages manufacturing and distribution, usually customers have no say in the final products of this company, but as the trends for consumption of a certain flavor, according to their statistics they will conform with the demands. The special requirements, like name branding on the bottles of the beverages, customization of the containers have had a significant impact in the consumption of coca cola products (Weygandt, J. J., Kieso, D. E., & Kimmel, P. D. 2010).
...pplied. Cost estimation and analysis could ultimately determine major decisions in both the business and political worlds today, and play a crucial role even in our day to day lives. Through activity based costing one is able to see what areas need improvement and also whether or not a business will be successful after considering all the factors. These tools are very powerful in drawing wise conclusions from cost analysis and can be a priceless tool to have even in the field of engineering.
Many organizations do not achieve the profits they anticipate by using incorrect methods or models to determine the true costs of products and services. This failure to correctly assess the costs associated with business not only affects the profit margin, but the organizations competitive advantage as well. In order to asses whether the organization is failing to realize optimum resource allocation, the organization should look at the methodology first popularized by Michael Porter titled the Value Chain Analysis (VCA). "VCA seeks to define the entire chain through which goods are supplied to a customer" (Booth, 1997, 2). The VCA can be a powerful tool in increasing an organization's competitive advantage; by correctly pricing products and assessing the true costs of materials and labor, organizations can align the improvements in efficiency, quality, and profits with its strategic objectives.
The more profitable firms are those that are able to maintain their most valued customers throughout time. To satisfy a customer means to make him faithful and customer satisfaction becomes the index that measures the ability of the firm to produce income for the future.