the impact and importance of activity based costing on financial performance of manufacturing firm

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the impact and importance of activity based costing on financial performance of manufacturing firm

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THE IMPACT AND IMPORTANCE OF ACTIVITY BASED COSTING ON FINANCIAL PERFORMANCE OF MANUFACTURING FIRM BY NGUYEN THANH HOA Graduation Project Submitted to the Department of Business Studies, HELP University College, in Partial Fulfillment of the Requirements for the Degree of Bachelor of Business (Accounting) Hons JUN 2010 DECLARATION OF ORIGINALITY AND WORD COUNT I hereby declare that the graduation project is based on my original work except for quotation and citations which have been duly acknowledged I also declare that it has not been previously or concurrently submitted for any other course/degree at Help University College or other institutions The word count is 10,663 words NGUYEN THANH HOA Date: ACKNOWLEDGEMENT This research contains a lot of details and varieties, thus it would be difficult to carry out it on one‟s own Receiving encouragement and help from many people I feel indebted to their aids, and wish to express my gratitude to them First of all, I would like to thank our respected supervisor – Dr Le Van Lien for his immense support throughout my research I would like to express my indebtedness to Dr Lien for his continuous guidance and support during my project Without his support, my project would not be completed I also reserved on priority of my special acknowledgement to Mr Tran Huu Huan - Financial Director of Dutch Lady Vietnam Company, who gave me useful ideas for my questionnaires Thanks also go to many financial managers of Dutch Lady Vietnam, Mr Nguyen Trung Kien, Mr Doan Le Minh, who had continuously guided me with all the valuable information for my research And finally, I am extremely grateful to all the staff of Dutch Lady Company who cooperated with me during the survey THE IMPACT AND IMPORTANCE OF ACTIVITY BASED COSTING ON FINANCIAL PERFORMANCE OF MANUFACTURING FIRM BY NGUYEN THANH HOA Jun 2010 Supervisor: Dr Le Van Lien Abstract The graduation project represents the results of research on impact and importance of Activity Based Costing (ABC) on financial performance of manufacturing firm The contribution of this project is to improve the financial performance of manufacturing firm by measuring impact and importance of ABC - a way to measure changes in their productivity of manufacturing firms The objectives of the project were to demonstrate chances in financial performance when manufacturing firms apply ABC approach Benefits of applying ABC and factors affecting the successful performance of ABC approach will provide managers with useful information in making better decisions on evaluating the application of ABC To achieve these above objectives, questionnaires were made and given to the financial staff of Dutch Lady Vietnam (DLV) Company They were required to complete the questionnaires based on their understanding and perceptions of ABC related to financial performance As can be seen, ABC has had a positive influence on improvement of financial performance at DLV Thus by applying ABC, managers of manufacturing firms would be given more accurate information and able to take the right actions that would improve the profitability and the financial performance of a company TABLE OF CONTENTS Page Declaration of Originality and word count ii Acknowledgement iii Abstract iv Table of Contents v List of Figures x List of Abbreviations xi Chapter INTRODUCTION 1.1 Introduction 1.2 The elements of the research 1.2.1 Research question 1.2.2 Research purpose 1.2.3 Research objective 1.3 Significant of research 1.4 Structure of research Chapter LITERATURE REVIEW 2.1 Overview 2.2 Conceptualization of financial performance 2.3 General look at ABC 2.3.1 What is Activity Based Costing? 2.3.2 Fundamental of ABC 2.3.3 Why is ABC needed? 10 2.4 Implementation of ABC 11 2.4.1 Cost classification in ABC 11 2.4.2 ABC in application management cost 13 2.4.3 Procedure of ABC cost allocation 13 2.4.4 Comparison with Traditional cost accounting 13 2.4.5 Benefits of ABC 16 2.4.6 Limitation of ABC 18 2.5 Case study from the Literature 19 2.5.1 Description of DLV 19 2.5.2 Application of ABC in DLV 20 2.5.3 Cost management in DLV 23 2.5.4 Cost allocation in DLV 24 2.6 ABC with financial performance 25 2.7 Initiative business strategies 25 2.8 Hypothesis 26 Chapter METHODOLOGY 3.1 Overview 29 3.2 Research methodology 29 3.3 Approach 30 3.4 Population and sampling procedures 31 3.5 Data collection 32 3.6 Questionnaire design 33 3.7 Reliability 35 3.8 Data analysis method 35 Chapter RESULTS OF THE RESEARCH AND ANALYSIS 4.1 Overview 36 4.2 Discussion of statistic analysis 36 4.2.1 Respondents 36 4.2.2 Data analysis method 37 4.2.3 Reliability and validity 37 4.2.4 Bias 37 4.3 Hypothesis analysis 38 4.3.1 Does the use of ABC impact financial performance? 38 4.3.1.1 General discussion 38 4.3.1.2 Figures 39 4.3.1.3 Discussion of results 40 4.3.2 Importance factors impact of ABC and Financial performance 42 4.3.2.1 General discussion 42 4.3.2.2 Figures 42 4.3.2.3 Discussion of results 43 4.3.2.3.1 Cost 43 4.3.2.3.2 Information technology 44 4.3.2.3.3 Business unit complexity 45 4.3.2.3.4 Intra company transaction 45 4.3.2.3.5 Competition 46 4.3.3 Does the benefits of using ABC lead to improve financial 47 performance? 4.3.3.1 General discussion 4.3.3.2 Figures 4.3.3.3 Discussion of the results 47 47 48 Chapter CONCLUSION 5.1 Conclusion 51 5.2 Limitations 52 5.3 Recommendations 52 BIBLIOGRAPHY 54 APPENDICES 59 LIST OF FIGURES Figure Title Page Figures 2.1 Activity Based Costing model 10 Figures 2.2 Application of ABC in DLV 22 Figures 2.3 Diagram of cost management in DLV 24 The perception of respondents about Activity Based Costing 39 Chapter Chapter Figure 4.1 system Figure 4.2 Component bar charts showing the response of yes 40 and no for in questionnaire A Figure 4.3 The opinion of respondents about factors that affect of Activity 42 Based Costing system on Financial Performance Figure 4.4 Component bar charts showing the response of yes 43 and no for in questionnaire B Figure 4.5 The reaction of respondent about benefits of firm when 47 applying Activity Based Costing method Figure 4.6 Component bar charts showing the response of yes 48 and no for in questionnaire C 10 Figure 4.6 Component bar charts showing the response of yes and no for in questionnaire C Percentage of respondent choose YES Number of respondent choose YES 100 90 80 70 % 60 50 40 30 20 10 After applying Activity Based Costing, the cost is reduce, firm’s profit has increased Better in overhead cost allocation Better in performance measurement Improvement in Increase in shareholder value ability competitive of company Using Activity Managers have Based Costing better decision in reduce unnecessary financial costs management Benefits when applying Activity Based Costing method 4.3.3.3 Discussion of results From the surveys about the impact of ABC on financial performance above, it is easy to realize its positive impacts The main benefit that the firm has when using ABC are seen as follow:  Better allocation of overhead costs with 98% respondent agrees Reducing unnecessary costs with 99% respondent agrees  Better in performance measurement with 80% respondent choosing YES  Better in decisions financial for managers are also high with 98% respondent choosing YES 59 In the competitive market at present, benefits of cost are very important ABC is a system providing cost information for these competitive strategies DLV is facing challenges and difficulties in business environment, thus benefits from ABC have become more important The result of this section shows that respondents have positive opinions about benefits of ABC method which helps the improvement in financial performance ABC method is used as a separate system to support managerial decisions in order to gather more accurate information used to make managerial decisions every months in DLV ABC is established according to cost allocation and based on process to provide information about resources, activities and cost objects From the view of cost allocation, DLV applies a multiple stage approach to get closer to actual costs in the company, in order to emphasize the relationship among activities, as well as between activities and cost objects in a chain of stages DLV is a firm based on profits All business activity in DLV is aimed to increase additional values to investors Dutch Lady Vietnam‟s business activities must earn a profit to cover capital cost If the profit is lower than capital cost, Dutch Lady will cancel investment value Therefore, completed information of costs is necessary to help management to make accurate business decision Information of cost is transferred by a modern system which includes not only tangible costs but also expected costs of investors Based on current data and history, as well as future expectation, managers 60 must find out which product, service and customer will contribute to success in business activities in the company In conclusion, before getting into deeper analysis phase, some of the factors which affect the result of the research concerning need to be mentioned and taken into account such as: information of respondent themselves, which data collection and analysis will be used before handing out the questionnaires Other than that solid attributes of questionnaire like reliability and validity need to be ensured and reviewed by a responsible person to avoid bias and mistakes In the questionnaires, different aspects about measurement of success of using ABC have been discovered Through three statistic and analysis tables and bar charts, the implementation of ABC in DLV brings positive results due to positive perception of staffs in the company Most of the respondents affirm that ABC has positive impact and important influence on improvement of financial performance On the other hand, during analysis phase, some answers from respondents were uncertain due to the lack of information about the questions given During the research and the analysis phase, experience was gained by the author and therefore suggestions will be given for future research in the next chapter 61 Chapter CONCLUSION 5.1 Conclusion By understanding and knowing the importance of ABC for the manufacturing firm, as well as studying previous researches on ABC, the researcher was able to build and support hypotheses that will demonstrate the actual impact of it on financial performance After carefully choosing the appropriate research method and making the questions about the hypotheses, researcher was successfully transferred into a set of questionnaires and surveys which were given to some of the financial experts of DVL Company Their answers as well as their perception and experiences about ABC were carefully analyzed The result achieved from the analysis stage was shown the relation of implementation of ABC in order to obtain maximization profit, as well as by confirming proven benefits of ABC All three hypotheses are accepted, these indicates the positive impact of ABC on financial performance Therefore it consolidates the fact which hypotheses was successfully demonstrated the vitality impact and importance ABC with financial performance 62 5.2 Limitation of research There are not many researches conducting on ABC‟s success on financial performance despite that numerous research of applying ABC on manufacturing On the other hand the research scale on this project was limited due to its sample size because only financial employee, internal auditor DLV was investigated The result may be varied if a larger scale was conducted The general answer and the analysis are based on the majority of the information collected, but the knowledge of the participants about Activity Based Costing may differ However, error on this project is assumed on a low rate Researcher might encounter financial problems during research phase; direct interview to each respondent was not carried out therefore more in dept and different questions was not given to the participant 5.3 Recommendations During research and analysis stage, set of questionnaires should have provided more extra information as well as detailed explanation to the respondent such as: how they should understand the question and how their answers will be analyzed and evaluated, etc 63 For particular chosen company of research, the DLV should ensure that relevant information to be accurate and participant to be committed, and should be able to comprehend knowledge from the fields Employee of chosen firm should improve their understanding of ABC in particular but accounting knowledge in general Since the ABC implementation concern with entire operation of the company, the employee should improve and work with the best motivation and effort in their domain, diminish unwanted error in which affect to ABC data statistics This project showed various opinions on ABC in DLV giving the fact that there are still uncertainties that can‟t be demonstrated clearly by this study or in this particular case hence impulse other researches to be conducted When the financial performance increased and the company turnover was achieved, research on ABC will be carried out to overcome existing limitation of ABC, therefore ABC knowledge to accounting community will be improved 64 BIBLIOGRAPHY Balachrishnan, R., T J Linsmeier, and M Venkatachalam 1996 Financial Benefits from JIT Adoption: Effects of Customer Concentration and Cost Structure The Accounting Review (April): 183-205 Banker, R D., and S M Datar 1987 Accounting for Labor Productivity in Manufacturing Operations: An Application In Accounting and Management - Field Study Perspectives, edited by W Bruns and R S Kaplan Boston, MA: Harvard Business School Press: 169-203 Banker, R D., and J Hughes 1991 Activity-Based Costing and Equilibrium Pricing Working Paper University of Minnesota Banker, R D., G Potter, and R G Schroeder 1995 An Empirical Analysis of Manufacturing Overhead Cost Drivers Journal of Accounting and Economics 19 (1): 115-137 Barnes, F C 1991 Ies Can Improve Management Decisions Using ActivityBased Costing Industrial Engineering (September): 44-50 Boyd, D T III 1996 An Analysis of Publicly Available Performance Measures of Companies Adopting JIT Dissertation: Louisiana Tech University Brimson, J A 1991 Activity Costing, An Activity-Based Costing Approach New York: John Wiley & Sons, Inc Bruns, W J and R S Kaplan 1987 Accounting & Management Field Study Perspectives Boston, MA: Harvard Business School Press Charles T Horngern/ Srikant M.Datar/ George Foster, Cost Accounting - A Managerial Emphasis Eleventh Edition Prentice Hall International, Inc 65 Compton, Ted R (1996) “Implementing Activity-Based Costing”, The CPA Journal, v.66, n.3, 1996, p.20-23 Cooper, Robin, 1988, "The Rise of Activity-Based Costing - Part One: What Is an ABC System?," Journal of Cost Management, Vol 2, No 2, pp 45-54 Cooper, Robin, 1990 Cost Classification in Unit-Based and Activity-Based Manufacturing Cost Systems Journal of Cost Management (Fall): 4-14 Cooper, Robin, and Robert S Kaplan 1988 Measure Costs Right: Make the Right Decisions Harvard Business Review (September/October): 96-105 Cooper, Robin, and Robert S Kaplan 1991b Profit Priorities from ActivityBased Costing Harvard Business Review (May/June): 130-135 Cooper, Robin, and P B Turney 1989 Hewlett-Packard: The Roseville Network Division Boston, MA: Harvard Business School (Case #9-189-117) Cotton, W D J 1993 Activity-Based Costing in New Zealand Working Paper SUNY at Genesco Cronbach, L 1951 Coefficient Alpha and the Internal Structure of Tests Psychometrica 16: 297-334 Deepak Mohan & Hemantkumar Patil, Activity Based Costing for Strategic Decisions Support Wipro Technologies Dillman, D A 1978 Mail and Telephone Surveys: The Total Design Method New York: John Wiley & Sons 66 Dixon, J M 1996 Total Quality Management in ISO-9000 Registered Organizations: An Empirical Examination of the Critical Characteristics Associated with Levels of Financial Performance Dissertation: Florida State University Easton, G S., and S L Jarrell 1995 The Effects of Total Quality Management on Corporate Performance: An Empirical Investigation Working Paper University of Chicago Estrin, T L., J Kantor, and D Albers 1994 Is ABC Suitable for Your Company? Management Accounting (April): 40-45 Ettlie, J E 1983 Organizational Policy and Innovation Among Suppliers to the Food Processing Sector Academy of Management Journal 35: 795-827 Evans, H., and G Ashworth 1995 Activity-Based Management: Moving Beyond Adolescence Management Accounting-London (December): 26-30 Feinberg, S 1983 The Analysis of Cross-Classified Categorical Data Cambridge, MA: MIT Press Foster, G., and M Gupta 1990 Manufacturing Overhead Cost Driver Analysis Journal of Accounting and Economics 12: 309-337 Hubbell,W W., 1996, "Combining Economic Value Added and ActivitiesBased Management," Journal of Cost Management, Vol 1, No 10, pp 18-29 Huson, M., and D Nanda 1995 The impact of Just – in – time Manufacturing on Firm Performance Journal of Operations Management (June): 297- 310 Kaplan, R S 1990 The Four-Stage Model of Cost System Design Management Accounting (February): 22-29 67 Kaplan, R.S 1993.Research Opportunities in Management Accounting Journal of Management Accounting Research (Fail): 1-14 Metin Rehanoglu, Activity Based Costing : Advantages and disadvantages Ankara University Novin, Adel M., “Applying Overhead: How to Find the Right Bases and Rates” Management Accounting n.3, p.4043, 1992 Raffish, N., and P Turney, The CAM-I Glossary of Activity-Based Management Arlington: CAM-I 1991 Robert S Kaplan/ Anthony A Atkinson, Advanced Management Accounting Third Edition Prentice Hall International, Inc Rogers, E M 1983 Diffusion of Innovations, 3rd Edition New York: The Free Press Rotch, W.1990 Activity-Based Costing in Service Industries Journal of Cost Management (Summer): 4-14Business Review (January/February): 71-79 Rotch, W 1990 Activity-Based Costing in Service Industries Journal of Cost Management (Summer): 4-14 Schroeder, D M 1990 A Dynamic Perspective on the Impact of Process Innovation upon Competitive Strategies Strategic Management Journal 11: 2541 Shields, D M 1999 An Empirical Analysis of Firm‟s Implementation Experiences with Activity Based Costing, Journal of Management Accounting Research: 148-166 Stewart, G B., 1991, The Quest for Value: A Guide for Senior Managers, Harper Business, New York, NY 68 O‟Guin, Michael C., The Complete Guide to Activity-Based Costing New Jersey: Prentice Hall, 1991 Tanju, D W and M Helmi 1991 ABCs for Internal Auditors Internal Auditor (December): 33-37 Tatikonda, L U., and R J Tatikonda 1993 Overhead Cost Containment Internal Auditor (February): 51-55 Thorne, H., and B Gurd 1995 Some Human Aspects of Implementing Activity-Based Management Journal of Cost Management (Fall): 50-57 Turney, P B B., “What is the Scope of Activity-Based Costing?” Journal of Cost Management v.9, n.4, 1990, p.40-42 Turney, P B B 1991 How Activity-Based Costing Helps Reduce Cost Journal of Cost Management (Winter): 29-35 Turney, P B B 1992 Common Cents: The ABC Performance Breakthrough Hillsborough, OR: Cost Technology 69 APPENDICES QUESTIONNAIRE Section A Before answering the following questions, please read the following definition: Activity Based Costing can be defined as a model of aggregated financial and non financial data related to operation activities in a firm to produce goods, by assigning resource consumption in a firm to products and services provided to customers In your opinion, does the use of Activity Based Costing affect to Financial Performance? Please indicate your response by tick in the blank of column YES or NO 70 YES NO The objective of implementing Activity Based Costing method has been identified clearly Activity Based Costing method is associated with the strategies of the manufacturing firm When deciding to apply Activity Based Costing method in the firm, the objective of firm is high return Activity Based Costing data have been used for performance evaluation Top manager and senior manager use Activity Based Costing information as the basic for decision making The Accounting or Finance department pay attention to Activity Based Costing method Activity Based Costing has strong active support for management Training of applying Activity Based Costing method has been provided 71 Section B In your opinion, have got any factors affected the impact of Activity Based Costing and Financial performance? Please indicate your response by tick in the blank of column YES or NO YES NO Costs Information technology Business unit complexity Intra company transaction Competition 72 Section C Does the benefits of using Activity Based Costing lead to improve Financial Performance? Please indicate your response by tick in the blank of column YES or NO YES NO After applying Activity Based Costing, the cost is reduce, firm‟s profit has increased Better in overhead cost allocation Better in performance measurement Improvement in shareholder value Increase in ability competitive of company Using Activity Based Costing reduce unnecessary costs Managers have better decision in financial management 73 ... Costing (ABC) on financial performance of manufacturing firm The contribution of this project is to improve the financial performance of manufacturing firm by measuring impact and importance of ABC... chapter consists of main sections such as general aspects of the impact and importance of ABC method on Financial Performance of manufacturing firm; the applying of ABC in DLV Company and the hypotheses... Conceptualization of financial performance Financial performance is the measuring of the results of a firm? ??s policies and operations in monetary terms In the manufacturing firms, financial performance

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