Life Cycle Costing Techniques - Models and Applications

Question: Discuss about the Life Cycle Costing for Techniques, Models and Applications. Answer: Introduction Every organization working in the modern economic environment needs to optimize its costs of production in order to increase their competitive edge in the market (Abernethy, Bouwens, Lent 2013). The better the cost measuring technique, the better is their business function (De Waal, 2013). If an organization can efficiently compute its costs of production, the profit margin of the organization will also increase accordingly (Dhillon, 2013). An increased competition in the global market has inspired every enterprise operating in the economy to improve their customer service and products (DRURY, 2013). These improvements can be introduced by improving the information systems of the organization, which will help the management to locate the customers and accordingly improve the quality of the product (Dhillon, 2013). Evaluating the product costs is one of the most important tasks of the organization in improving the information system (Hair, 2015). The study will analyze the modern costing systems, which are being used by the organizations lately and its history (Horngren et al., 2013). The study will also look into the implementation of the various costing systems, its benefits and its effect on the behavioral changes on the management and the organization (Kerzner,2013). The differences in the traditional and the contemporary costing techniques will also be taken into consideration in the study below. Contemporary Costing System Contemporary Costing System as the word suggests refers to the modern costing techniques introduced worldwide with the advent of new and improved business functions and production process (Franco-Santos, Lucianetti, Bourne, 2012). The implementation of newer equipments and manufacturing process in an organization has led to the introduction of newer indirect costs, which change the cost of production of a unit (Abernethy, Bouwens, Lent 2013). Earlier during the use of traditional costing system, only the direct costs inherent with production were taken into consideration for the calculation of manufacturing costs (Mitra, 2016). The Concept of Contemporary System has been introduced in the business environment since the 1990s (Hair, 2015).. Out of the various systems, ABC system has gained much prominence in the production sector and the use of these tools has also been started using in the tertiary sector (Dhillon 2013).The implementation of this technique has helped gain competiti ve edge for the firms in the economic environment. For example, ABC costing has also been introduced in the healthcare industries in New Zealand (Mellor, Hao, Zhang, 2014). There has been some problems arising with this techniques, which has pushed the healthcare industries to back out from these techniques because there has been some problems regarding the usefulness and the accuracy of the data provided by the ABC technique and also the ineffectiveness to ascertain operational cost (Kaplan, Atkinson, 2015). Abernethy, Bouwens, Lent (2013) asks for the evaluation of the accounting systems in the healthcare sector with the goal of strengthening and facilitating the resource distribution. The evaluation of the expense and cost has been done through the ABC method but the profitability gained from ABC cannot be ascertained properly for the healthcare centers and thus there are chances that this sector may face risks and problems of generating profit (Kumarasiri 2015). Consequently, the healthcare firms with the objective of earning profit implement the ABC rather than non-profit healthcare organizations. Though there are some risks involved with this technique, but still the method provides better organizational activities within the healthcare departments (Huynh, Gong, Nguyen, 2013). Thus, ABC is thought to give data to realize, which activities in the health sector will provide extra profit and which activities will incur a loss (Quattrone, 2016). The need for a cost management technique became imperative for every organization to keep a balance between the revenue and cost. The only aim is to improve the value of the firm through managing costs externally and the cost internally (Franco-Santos, Lucianetti, Bourne, 2012). The costing method first determines the drivers of cost to understand the reason behind the cost (Mitra, 2016). The structural drivers include the technology used the location of the organization, value delivery system and the amount of operations in the business. (DRURY, 2013). Activity Based Costing This concept was established in the America in the production sector during the 19th century. The system was introduced because to rectify the problems, which the traditional costing techniques were not able to identify (Huynh, Gong, Nguyen, 2013). Therefore, the management professionals had problems to make proper decisions on the basis of the incorrect information. ABC system on the other hand allocates cost according to the relationship of cost-and-effect (Kaplan, Atkinson, 2015). Thus, ABC is a methodology of costing that deals with the operations in an enterprise and allocates cost of each operations along with the resources of the commodities and services with respect to the original use by each unit. It also uses the cost drivers to link the activity costs to the output (Mellor, Hao, Zhang, 2014). The system was created to understand the strategic insight of the source of revenue for the organization (Abernethy, Bouwens, Lent 2013). The process was not created to evaluate the day- to- day supervision on the quality of process or to analyze the short-term variable costs(Huynh, Gong, Nguyen, 2013).. Use of Activity Based Costing ABC is significantly useful in providing information about costs, which are more useful than the standard costing system. The method is thus useful for evaluating the profitability of the organization (Abernethy, Bouwens, Lent 2013). It is also helpful to the management to segregate the business function into various ways on the basis of identical product, groups or distribution channel and then provides a close view of whatever department they have taken into consideration (Huynh, Gong, Nguyen, 2013). The method also evaluates the operations, which are related to the distinct segment taken for evaluation and how these operations are useful for the creating profit and the amount of resource absorbed (Homburg, Artz, Wieseke, (2012).. The relationships highlighted through this technique will help determine the place where actions can be taken to generate excess profit (Kaplan Atkinson, 2015). Therefore, in the last two decades the use of this method has become vital all over the gl obe (Rumble, 2012). Evolution of ABC Costing System The ABC costing method has changed radically from time of its origin to the current market situation because all the costing systems have changed with changing economic environment (Mellor, Hao, Zhang, 2014). The other reason for its evolution is because of the behavioral response towards ABC, which has grown due to user satisfaction and later acceptance of the technologys importance to the business success (Homburg, Artz, Wieseke, (2012).. The following lines will discuss the various improvement of this system with respect to the New Zealand market(Abernethy, Bouwens, Lent 2013). Technological Trigger (1984-1987) A trigger generally occurs when there is no development in the work function in the economy. ABC was thus triggered in the when there was a pressure from Japanese competition, which motivated the countries like New Zealand to implement such a technique, which will be ideal to fight this sort of competition from the external market(Kaplan, Atkinson, 2015). Such an impact was crucial for the country and thus adopted management practices, which were in use in different rival competitor or few organizations implemented creative costing techniques of their own(Huynh, Gong, Nguyen, 2013). Such new methods were thus introduced in the market as the older systems gave negative operational and strategic results. One such example is the hospitals in New Zealand and they introduced complex methods (Kaplan, Atkinson, 2015). These new costing technique helped the management to understand the effect of their decisions (Abernethy, Bouwens, Lent 2013). However, the accuracy and identification of the problem was lacking with respect to the ABC but the exclusion of the intrinsic behavioral distortion in the cost method helped the hospitals to compete (Mellor, Hao, Zhang, 2014). Inflated Expectation (1987-1991) For the method of ABC, the travel to the top was with respect to publicity and use of first generation tools and equipments (Rumble, 2012). There were several journals, which explained the use of ABC, and how it would be essential for every organization (Abernethy, Bouwens, Lent 2013). The firms operating in the market of New Zealand started the implementation of this technique as it eliminated the subsidies of the product intrinsic in the cost accounting (Kaplan, Atkinson, 2015). It opened the sources of the loss, which was the reason for the reduction in the profitability. The method also acted a catalyst for any profitability decisions. Trough of Disillusionment (1991-1995) In this phase, the criticisms of the ABC costing method came into action. The critics got divided into two sections and one argued that the method was not consistent with the principles of quality management and the sustainable improvement (Abernethy, Bouwens, Lent 2013). The thing learned from this phase was that the technique reduced the user interest and there were inevitable failures for the development of inexperienced technologies (Rumble, 2012). The only positive aspect was that the system could overcome all this failures and continued its growth and development (Huynh, Gong, Nguyen,2013). Slope of Enlightenment (1995-2000) The system developed in this phase as it pushed through the market and continued its technological development (Kerzner, 2013). Earlier the costing method focused on the solving the errors in the overhead allocations but later it focused on areas like logistics, supply chain marketing sales etc (Abernethy, Bouwens, Lent 2013). The system also got implemented in the insurance banking, healthcare and other industries because of the introduction of estimated modeling of ABC, which expanded its source from historical costing to capacity and scenario analysis (Kaplan, Atkinson, 2015). The model acted as a base for budgetary costing estimation for making decisions (Rumble, 2012). These new implementations of this method attracted more and more organizations to implement this technique in the New Zealand market as it would help them in making pricing decisions and increase the competitive edge (Homburg, Artz, Wieseke, (2012). Plateau of Productivity (2000-2006) This phase of productivity is where the market penetration exceeds 30% and the benefits of the technology are realized and are predicted to move ahead the effort required to introduce and the cost (Kerzner, 2013). The market penetration in New Zealand for this system is about approx 30% and showed the organizations with profit of $1 billion annually has established the ABC program in New Zealand. The increase in demand for this technique was due to factors like financial benefits, software and use of internet has increased the use of ABC technique (Boute, Bruggeman, Vereecke, 2015). Therefore, the new uses of ABC came up to increase the value from the equipment. The ERP systems made the use of ABC models easier and advanced, the lesson from this phase is the increased functionality, and cost reduction opened up the new application of ABC (Kaplan, Atkinson, 2015). Post Plateau (2006-present) In this phase, ABC became an integral part of the new generation business function to provide better management solutions (Kerzner, 2013). These solutions are inclusive of profitability, performance, financial and human capital management (Abernethy, Bouwens, Lent 2013). The need for this method was necessary when the organizations transformed their business activities from a narrow range of products to a wider range (Rumble, 2012). With the change in the business process, the overhead costs have grown to be of considerable importance and thus the need for accurate costing of the products became imminent (Kaplan, Atkinson, 2015). This method can also relate non-volume operations, which the traditional method did not take into account (Kerzner, 2013). Therefore, ABC came into effect. The application of the method provides better quality and reduces cost of few firms. Khataie, Bulgak (2013) feels that there exists three focus points, such as cost efficiency, sustainable improvement and management of the product line (Kerzner, 2013). ABC concentrates generally on the operations and continuous growth is possible as the method focuses on the performance analysis to find out the value and non-value adding activities (Abernethy, Bouwens, Lent 2013). It is seen that firms have taken advantage of ABC by highlighting the quality and cost issues (Boute, Bruggeman, Vereecke, 2015). Adequate information is also available from this method. The method has the difficulty to realize the total activities, which are a factor to motivate the costs. Khataie, Bulgak (2013) assumes the most ideal cost drive is difficult to choose in this method. The assessment of cost becomes difficult to choose based on the operational activities. The method involving complex techniques being expensive is not suitable for smaller firms (Rumble, 2012). Contemporary Cost Management Technique An organization with ABC method commits costs during the time of designing the product, taking decisions about the method of production and the time of choosing the delivery channel (Kerzner, 2013). The costs are normally estimated during the time of manufacturing and delivery and so no decrease in the cost can be made during the time when costs really generate (Abernethy, Bouwens, Lent 2013). Therefore, the costs are managed at the point of commitment or the lock-in period and not at the point of incidence as the cost drivers are the factors that motivate the consumption of resources (Schaller, 2016). Arguments of ABC The use of ABC is more exact because it involves a number of cost drivers and thus there exists some arguments regarding this technique. But still the problem of arbitrary assignment cannot be solved with the increased number of cost drivers (Boute, Bruggeman, Vereecke, 2015). . The management accounts have started emerging with new techniques of cost assignment. The argument regarding the definition of indirect costs is that the these costs cannot be ascertained with the cost objects (Quattrone, 2016). The argument posted by Kerzner (2013) is that if the allocation of direct costs does not change depending on the cost assignment as direct costs are real, then indirect costs are real too (Rumble, 2012). With respect to ABC, the traditional method cannot provide solutions to these questions, though if the definition is taken into account in literal sense, then these costs can never be real. This is due to the fact that the results may swing according the base of allocation as the all ocation costs depends upon the judgment of an individual (Mitra, 2016). Therefore, it is meaningless to claim whether ABC method is of higher accuracy or lower. An example about the argument can be taken from a Portuguese organization where the implementation of ABC was undertaken (Dhillon 2013). The answers of costing were not acceptable by the manufacturing employee as they this technique did not fulfill the exactness that was needed (Narayanan, 2012). The other reason was that this method is a complex one as the assignment of cost computation is very difficult. In this method, the assignment of cost is more irrational and subjective with respect to the traditional costing method. Similar to Kerzner (2013) argument, it is still unclear that how ABC method is superior than the traditional costing method when there is no direct tracking of the overhead and that there is still assignment of costs, but the expenditure related to the implementation of ABC techniques is costlier than the traditional method (Boute, Bruggeman, Vereecke, 2015). Research Issues of ABC costing in the last 20 years. The aim of this assignment is to ascertain the contemporary costing system, one such system is the Activity Based Costing. The study now will examine the advantages and disadvantages of this costing technique with respect to the New Zealand market. According to Khataie, Bulgak (2013), the requirement of costing methods became prevalent when the producers needed to ascertain the cost of production of their goods (Abernethy, Bouwens, Lent 2013). The requirement of the costing methods came into effect for making proper pricing decisions by the management and efforts to promote the product in the market (Quattrone, 2016). As discussed earlier, the traditional technique only considered the direct costs to ascertain the cost of production (Rumble, 2012). The overhead costs were assigned on the cost drivers of the labor hours as it was considered that a large chunk of price comprised of labor (Schaller, 2016).. But with the advent of new machine and technologies in the economy, it was disc overed that labor was not the important cost and so it was not the important mean for overhead assignment (Narayanan, 2012). The ABC method was primarily introduced in the production industries and then with its success, was later applied to the tertiary or service industry as well. Dhillon (2013) explains this method to be the most efficient while computing cost of production. Thus, ABC is actually concentrating on transferring costs into relevant information and in this respect, ABC was exactly what was able to achieve (Quattrone, 2016). . The method takes every individual unit separately but the problem with the implementation of such method is the cost and the technical usefulness needs to be analyzed to find out that the information given by ABC does not outweigh the cost (Narayanan, 2012). Homburg, Artz, Wieseke, (2012) explains the cost of ABC to be expense for measurement and the cost of errors. The equilibrium of having enough cost drivers to make assessment perfect and not having too many so that the cost of maintaining those increases over the accuracy gained needs to maintained (Boute, Bruggeman, Vereecke, 2015). It is also recommended by few writers that this technique should only be implemented if the incentives related to it are more than the cost (Narayanan, 2012). There has been a concern on the cost according to the information provided by the costing system. ABC finds answer to this issue and with the use of cost drivers (Rumble, 2012). The use of this technique is important as this method incorporates financial and non-financial information(Narayanan, 2012). It then allows the non-financial performance measures, which needs to be implemented in the firm. Kerzner,(2013) responds that poor measurement of cost depletes the dynamic competition across a sector. Scope of Resource Then there also exists cost for maintaining this model due to change in resources and introduction of new complex methods (Schaller, 2016). To overcome these issues, suggestions are given to implement time-driven ABC (Quattrone, 2016). . The only reform is that it takes into account two predicted variable (the unit cost of supplying capacity and time needed for the performance). The use of these variables time equations can be established (Rumble, 2012). The argument with respect to ABC is more specific due to increase in the number of cost drivers but such increase does not solve the issue in relation to the arbitrary assignment (Narayanan, 2012). The new accounts of management are establishing newer methods of allocation. Thus, the debate about the definition, that indirect cost is the costs that cannot be traced into objects of cost (Boute, Bruggeman, Vereecke, 2015). When direct costs are real and the assignment of these cost do not change with the cost assignment method, then indirect costs should be real too (Mitra, 2016). But, literally speaking, costs are never real and are assigned according to the allocation base and the allocation of costs rely on the judgment of the individual (Narayanan, 2012). Therefore, we can say that it is meaningless to assume that ABC is of higher or lesser accuracy (Quattrone, 2016). . Another problem was due to the fact that costing was a bit confusing as to how the allocation needs to be evaluated (Rumble, 2012). The assignment of the cost is arbitrary and subjective with respect to the standard costing. Conclusion The study above underlines the modern contemporary issues of accounting, showing how costing system was implemented and a synthesis of various articles and journals. The study outlines the appropriate management issues and the discussion of the Activity Based Costing methods, their implementation, benefits and demerits. The implementation of models to introduce the cost management systems is an important aspect to generate a good accounting model. The study examines the arguments for and against the Activity Based Costing and its relevance in an organization. Every organization needs to record their manufacturing cost in order to ascertain the selling price of their product. An improved method through contemporary systems will give them accurate information, which will be helpful to increase the competitive edge in the market. Therefore, it is imperative to construct a good management accounting using the different methods are essential. Reference List Abernethy, M. A., Bouwens, J., Lent, L. (2013). The role of performance measures in the intertemporal decisions of business unit managers.Contemporary Accounting Research,30(3), 925-961. 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