Magazine article Occupational Hazards

Environmental Compliance: You Better Know Your ABCs

Magazine article Occupational Hazards

Environmental Compliance: You Better Know Your ABCs

Article excerpt

Activity-based costing (ABC) can help your company determine when not being green is putting you in the red.

During tough economic times, corporations are constantly thinking about developing operational improvements that will decrease costs and improve the company's bottom line. Activity-based costing (ABC) is a tool that enables companies to take a hard look at the profitability of their existing plants and products. By incorporating environmental costs into an effective activity-based costing system, companies can identify more accurately those plants and products which are driving up their environmental expenditures. Once identified, the company is better equipped to determine which products to eliminate, which raw materials to change, what processes to modify, and so on.

Traditional costing systems were developed during a period when labor was the primary factor related to costs, but such systems rely too heavily on the direct labor cost component. These costs primarily consist of the time workers spend on specific job orders. Further, our traditional costing systems were designed when "fixed" costs were minimal. Fixed costs are the operating expenses of a business that do not vary, at least over the short term, with the volume of output.

Costing systems must be updated to incorporate the factors related to today's technologically advanced processes and products. Direct labor is no longer the dominant force that drives the product cost. Now, companies must account for costs relating to increasingly important areas like environmental compliance and remediation, distribution, marketing, factory support, and engineering costs.

ABC provides managers with an effective method to identify a relationship between performing specific activities and the impact their related costs have on the company's products. By reviewing every activity, ABC can reveal accurate information regarding a product's profitability. ABC can provide managers with new and useful information to help them manage their businesses. The new information from ABC can lead to strategic changes.

Michael E. Wheeler, director of Operations Management for the Pittsburgh office of Arthur Andersen & Co., says, "Many companies struggle to quantify the amount they are spending on the environment each year based on the data available in their existing accounting systems. This information is becoming increasingly critical to a company's ability to make intelligent and strategic decisions. Activity-based costing is the most effective way to capture and present the effects of this exploding segment of overhead."

Activity-Based Costing

ABC is a two-step costing system that assigns costs to products according to the demand each product makes on all of a company's varied resources. The first step of the ABC method is to identify activities and their related costs. Activities are defined as what an employee spends time doing at a company. ABC revolves around identifying significant activities within the preproduction, production, and postproduction processes. Some products or customer costs include both pre- and postproduction efforts, such as engineering and advertising. Generally, traditional costing systems do not address these costs.

The second step of the ABC method is to assign those activities and their related costs to products, channels, and customers via cost drivers.

* Products are the goods or services a company produces.

* Channels are the different methods of distributing those products to customers through catalog, retail, or wholesale sales.

* Customers are those who purchase or use a company's product or services.

* Cost drivers are the factors or events that trigger an activity to happen or cause an expense to be incurred, such as the number of products produced, the number of purchase orders, or the number of transactions handled.

ABC is a tool that is used to identify and prioritize cost reduction opportunities through cost driver analysis. …

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