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Activity Based Costing

Activity-Based Costing (ABC) is a costing methodology that assigns costs to activities based on their consumption of resources. Unlike traditional costing methods that allocate costs based on volume or machine hours, ABC seeks to provide a more accurate representation of the true costs associated with producing goods and services. In ABC, activities are the fundamental tasks or processes that consume resources in an organization. These can be related to production, distribution, customer service, and other business functions. (Drury, 2013)

Uses of ABC costing

  • Resource Drivers: Resource drivers are the factors that cause the consumption of resources in activities. These can include machine hours, labour hours, units produced, or other relevant measures.
  • Activity Drivers: These are the factors that are helpful in measuring the number of activities for each of the resource driver. These are used for the allocation of total overhead costs into each activity drivers from the cost pools and then to the respective goods. Activity drivers are not necessarily volume-based or quantifiable thereby providing a good representation of correct consumption of resources across variety of products or services.
  • Activity Rates: Activity rates are calculated by dividing the total cost of an activity by its total activity driver quantity. These rates are then used to allocate costs to products or services based on their consumption of activities.
  • Cost Assignment: In this stage, costs are assigned to activities using resource drivers. This stage involves the identification of how much of resource is consumed by each activity driver.
  • Cost Pools: The total overhead are firstly grouped into cost pools on the basis of the activities they support. Let’s take an example, a trading company may have cost pools including quality control, marketing strategies, channel partnership costs.
  • Allocation to Products/Services: Once activity rates are determined, costs are allocated to products or services based on the quantity of activity drivers associated with each. This provides a more accurate reflection of the true costs incurred by each product or service.

Let’s understand this approach with an illustration:

Telehealth sector

 
 

Activity Number

Activity

Possible Cost Driver 1

Percentage Time

Total Value Added Cost

 

Employee No. 1

Employee No. 2

Employee No. 3

Employee No. 4

 

1

Maintenance of telehealth platforms

Technology infrastructure

33%

34%

41%

44%

54820

2

Renewal costs

Number of licenses

15%

18%

19%

21%

26440

3

Developing training programs

Training healthcare professionals

23%

25%

16%

11%

26980

4

Platform for video or audio consultations

Conducting remote consultations

14%

11%

14%

15%

19340

5

Operating help desks, providing 24/7 support

Providing customer support

15%

12%

10%

9%

16420

Total Percentages

100%

100%

100%

100%

Total Wages

32,000

40,000

34,000

38,000

1,44,000

 

Telehealth sector

 
 

Cost Driver

Number of Cost Drivers

Employee No 1

Employee No 2

Employee No 3

Employee No 4

Total Costs

Cost per Cost Driver

 

Technology infrastructure

76

10,560

13,600

13,940

16,720

54,820

721.32

Number of licenses

230

4,800

7,200

6,460

7,980

26,440

114.96

Training healthcare professionals

360

7,360

10,000

5,440

4,180

26,980

74.94

Conducting remote consultations

1080

4,480

4,400

4,760

5,700

19,340

17.91

Providing customer support

3500

4,800

4,800

3,400

3,420

16,420

4.69

 

32000

40000

34000

38000

 

Telehealth sector

 
 

Cost Driver

Cost per Cost Driver

Product A

Product B

 

No of Drivers

Value added Costs

No of Drivers

Value added Cost

 

Technology infrastructure

721.32

24

17,311.58

52

37,508.42

Number of licenses

114.96

101

11,610.61

129

14,829.39

Training healthcare professionals

74.94

137

10,267.39

223

16,712.61

Conducting remote consultations

17.91

378

6,769.00

702

12,571.00

Providing customer support

4.69

1435

6,732.20

2065

9,687.80

Total Overhead

52,690.78

91,309.22

No. of units

200.00

300.00

OH per pack ABC

263.45

304.36

OH per pack Traditional

288.00

288.00

 

Activity-Based Decision Analysis:

Activity-Based Decision Analysis (ABDA) is a framework that focuses on analysing and making decisions based on activities within an organization. This approach is particularly relevant in the context of process management and improvement. Here's a breakdown of the key components of an Activity-Based Decision Analysis framework:

  • Identification of Activities: It defines and identifies the key activities within the organization or a specific process. The activities can be operational, strategic, or support related.
  • Activity Analysis: It breaks down each identified activity into its constituent elements. It understand the inputs, processes, outputs, and dependencies associated with each activity.
  • Resource Allocation: Analyze the resources (human, financial, technological) required for each activity. Evaluate the efficiency and effectiveness of resource allocation.
  • Costing and Budgeting: It assign costs to each activity, including direct and indirect costs. It develops a budget that aligns with the identified activities.
  • Performance Measurement: It establishes key performance indicators (KPIs) for each activity. It monitors and measures performance against these indicators to assess efficiency and effectiveness.
  • Risk Analysis: It Identifies potential risks associated with each activity. IT Assess the impact of these risks on overall organizational objectives.
  • Decision Criteria: Define criteria for decision-making, considering factors such as cost-effectiveness, strategic alignment, and risk mitigation.
  • Decision Modelling: Use modelling techniques to simulate different scenarios and their potential impact on activities and overall organizational performance.
  • Scenario Analysis: Evaluate different scenarios to understand the consequences of various decisions on activities. It considers best-case, worst-case, and most likely scenarios.
  • Decision-Making: Make decisions based on a comprehensive analysis of activities, considering all relevant factors. Prioritize decisions based on their impact on organizational goals.
  • Implementation and Monitoring: Implement the decisions and monitor their impact on activities and overall organizational performance. Adjust strategies and activities based on ongoing monitoring and feedback.

Applicability of Activity-based costing in telehealth sector

Activity Based Costing is applicable to the telehealth services in New Zealand in the following ways:

  • Identification of Telehealth Activities: The telehealth sector comprises various telehealth activities like data management, administrative tasks, virtual consultations, technology support etc. The activity-based costing allows the bifurcation of overall costs into these broad activities so that proper tracking of performance can be carried out & according decisions can be made as to which segment is contributing to the success of entity and which one is eroding the profits.
  • Allocation of Personnel Costs: The major costs in telehealth sector is healthcare professionals' time and expertise. The activity-based costing is helpful in allocating the personnel costs to the activities to which it relates after considering various relevant factors including the complexity of cases, type of service provided, level of expertise required etc.
  • Secondary or Supportive Functions: Secondary/ support activities are such activities which are directly related with any services, but which provide the supporting functions for the organisation to operate like record-keeping, technical support, accounts preparation, customer care, head office expenses etc. The activity-based costing is relevant in identifying & allocating the costs associated with these secondary functions & improving transparency in consumption of resources.
  • Transparency in telehealth costs: There should be clear bifurcation of total costs of the telehealth activities to take informed decisions regarding allocation of resources, strategic planning, and timely execution.
  • Resource Utilization Analysis: The telehealth services comprises multiple activities which include personnel costs, costs of building technology infrastructure, costs of purchasing software applications, and cost of installing equipment. Activity based costing helps the entity to make a detailed analysis of the utilization of resources that the entity own to track on the efficiency of utilizing resources. It gives an idea to the organisation regarding how much resources are consumed by different telehealth activities and net benefits accrues to the business in return of utilizing resources against each activities.
  • Cost Drivers for Telehealth Services: The telehealth sector comprises cost drivers like data management, administrative tasks, virtual consultations, technology support etc. It is therefore pertinent to note that overall costs shall be clearly bifurcated into different time activities for correct resource allocation and product pricing.
  • Teleservice costing: The Telehealth services comprises many sub-services including asynchronous and synchronous consultations. Such costing approach helps the entity to prepare the detailed costing for each service fields to calculate the actual total costs being incurred in completing the services and product price for the ultimate customers.(Areena, 2019)
  • Optimizing Resource Allocation: Activity based costing helps the entity to make a detailed analysis of the utilization of resources that the entity own to track on the efficiency of utilizing resources. It gives an idea to the organisation regarding how much resources are consumed by different telehealth activities and net benefits accrues to the business in return of utilizing resources against each activities.

Meaning & uses of time driven activity based costing

Time-Driven Activity-Based Costing (TDABC) is an extension of the traditional Activity-Based Costing (ABC) method. TDABC addresses some of the challenges and complexities associated with the detailed and resource-intensive nature of traditional ABC. (Dejnega, 2011) It simplifies the allocation of costs by incorporating time equations and uses time estimates for activity duration rather than conducting extensive and detailed activity analysis. Here's an overview of Time-Driven Activity-Based Costing:

  • Focus on Time Equations: TDABC places a significant emphasis on time as a key driver of costs. It involves developing time equations that estimate the time required to perform specific activities within an organization.
  • Resource Cost Rates: Instead of determining the costs associated with each individual resource, TDABC calculates resource cost rates based on the capacity cost of resources per time unit (e.g., per call time). This simplifies the costing process by focusing on a standardized cost per time.(Riediansyaf, 2014)
  • Resource Drivers and Time Drivers: TDABC still recognizes the importance of resource drivers and time drivers. Resource drivers represent the factors that determine the consumption of resources, while time drivers capture the time-based dimension of the activities.
  • Capacity Cost Rate Equation: The capacity cost rate is determined by dividing the total cost of resources by the practical capacity of those resources. This provides a standardized rate that is then applied to the time required for each activity.
  • Simplified Overhead Allocation: TDABC simplifies the overhead allocation process by focusing on time as a primary driver. This simplification is particularly beneficial in settings where the detailed analysis of resource drivers may be impractical.
  • Estimation of Time Consumption: TDABC involves estimating the time consumption for each activity. This estimation can be based on historical data, expert judgment, or time and motion studies.
  • Calculation of Activity Costs: Activity costs are calculated by multiplying the time consumed by the resource cost rate. This yields the total cost of each activity.

Let’s understand this approach with an illustration

Included Margin

Contract price

       

$1,999.00

Practice price

       

$199.00

IVR call price

       

$0.20

admin call price

     

$15.00

triage call price

     

$45.00

Price per call with followup (clinic, callout)

 

$60.00

Name:

ABC

Practices:

5

Date:

Feb-23

Triage Calls:

900

Call Data (pro-rata 3 months):

Clinic Calls:

300

IVR calls:

15,000

Admin Calls:

900

Pricing (inc. 8% Margin)

IVR Only Calls

Admin Calls

Triage Calls no handover

Triage Calls with handover

Cost of practices

 Annual Price (revenue)

$3,000.00

$13,500.00

$40,500.00

$18,000.00

$995.00

$75,995.00

Applicability of time driven activity-based costing in telehealth sector

The time driven Activity Based Costing is applicable to the telehealth services in New Zealand in the following ways:

  • Data Accuracy and availability: It is important in the Time driven Activity Based Costing that the data is collected from reliable sources otherwise the result will not be accurate. It is thus of major importance that the data collected shows the correct time estimates & shall largely depends on the availability.
  • Transparency in telehealth costs: There should be clear bifurcation of total costs of the telehealth activities to take informed decisions regarding allocation of resources, strategic planning and timely execution.
  • Wide activities coverage: The telehealth sector comprises major activities like data management, administrative tasks, virtual consultations, technology support etc. It is thus pertinent to note that the overall costs shall be clearly bifurcated into different time activities for correct resource allocation and product pricing.
  • Dynamic & Flexibility: The demand of telehealth sector depend on various factors including price level, quality of services provided, taste & preferences of customers, usage of technology, and models of service delivery used by management to provide the services to ultimate customers. The costing approach provides due flexibility to makes the model adaptable to changes in various factors including utilization of resources, early adjustments to evolving telehealth needs.(Namazi, 2016)
  • Allocation of Time-Based Resource: The Time driven Activity Based Costing is primarily based on time-based telehealth consultations and related activities. This approach provides a more accurate estimates of the actual costs incurred in different activities during the telehealth sessions.
  • Costing purposes: The Telehealth services comprises many sub-services including asynchronous and synchronous consultations. Such costing approach helps the entity to prepare the detailed costing for each service fields to calculate the actual total costs being incurred in completing the services and product price for the ultimate customers.(Areena, 2019)

References

Areena, S. (2019). A review on time-driven activity-based costing system in various sectors. . Journal of Modern Manufacturing Systems and Technology.

Dejnega, O. (2011). Method time driven activity based costing–literature review. Journal of Applied Economic Sciences.

Drury, C. (2013). Management and cost accounting. . Springer.

Jalalabadi, F. M. (2018). Activity-based costing. In Seminars in plastic surgery (Vol. 32, No. 04, pp. 182-186). . Thieme Medical Publishers.

Namazi, M. (2016). Time driven activity based costing: Theory, applications and limitations.  Iranian Journal of Management Studies.

Riediansyaf, M. (2014). The application of time driven activity based costing in the hospitality industry: an exploratory case study. . The Journal of Applied Management Accounting Research.   

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