Activity based costing case study greeting inc

The number of hazardous chemicals it handled had grown to more than , and the number of product lines had grown to ten, including used motor oil, antifreeze, oil filters, paint, and drycleaning solvents.

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And its number of plants had grown to 12 in eight states and Puerto Rico, and most of them handled multiple types of waste. One plant has since been closed. By the early s, the market had also become more complex. Plant managers were responsible for deciding how to handle the wastes shipped to their facilities; they could process the material themselves or ship it to another facility or, in some cases, to a third-party processor.

But usually, wastes were simply shipped to the nearest Safety-Kleen plant, whether or not it was the one that could process them at the lowest cost. In fact, Safety-Kleen did not know the true costs of its services and products. The main purpose of the cost-accounting numbers was to help the accounting department keep the books, not to help operations do its job.

Operations and marketing began to develop their own numbers to support decisions about capital expenditures, pricing, plant utilization, and process improvements. Top management gradually realized that the company needed to start basing waste-handling decisions on what would generate the most profits for the whole company rather than what would be best for an individual plant.

In order to make decisions that way, the company needed much more detailed information about its operational costs, including how much processing, shipping, and handling a given batch of materials would cost at each plant. In short, the company needed a radically new cost-accounting system. When Safety-Kleen and Chrysler first introduced ABC, they both quickly discovered that many employees—from frontline workers to senior managers to entire departments—resisted. Some feared ABC would change the existing power structure. Some felt threatened because they knew ABC would reveal inefficient practices that had been hidden by the traditional cost-accounting systems.

Others did not like ABC, simply because it was new. And many managers, especially those who felt ABC was being imposed on their operations, resisted because they knew installing it was a tremendous amount of work. Most companies seriously underestimate how big a job gathering the information needed to set up an ABC system is.

One reason is that ABC is much more detailed and complex than standard cost accounting.

Much more than documents.

Traditional systems lump together many costs into a few heterogeneous overhead pools, or categories. Under ABC, each of those pools are often broken into scores of ABC activities, and it may take hundreds of inquiries to identify and gather the information on them. Similarly, an ABC system uses many more statistical measures to assign the overhead costs to products, processes, distribution channels, customers, and markets than a traditional system does.

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A standard system typically uses one or two statistical measures, such as the number of hours of direct labor required to make each product, to allocate overhead costs to products. A typical ABC system uses dozens of cost drivers, ranging from the number of parts to the number of sales calls, to allocate activity costs. Another reason collecting data is so time-consuming, especially in the beginning, is that figuring out precisely what kind of information is required to set up an ABC system and where to find it takes a while.

Most companies go overboard at first and end up with a mountain of excruciatingly detailed information, which overwhelms both their people and their computer systems. When Chrysler installed ABC at its first factory, a stamping plant in Warren, Michigan, it gathered three times the information it could use practically. Mopar ultimately decided to construct the costs of 60 major and minor product groups, which reduced the amount of data to a manageable level but was still extremely useful. Safety-Kleen also found that less could be more. The team, however, grew worried that the detail would overwhelm the ABC systems and also concluded that much of the requested information was not important for determining costs.

The deep skepticism with which Chrysler employees greeted the ABC initiative at some of the first work sites where it was installed was hardly surprising. Chrysler had a long history of flavor-of-the-month performance-improvement programs that never seemed to deliver what they promised and were replaced as soon as a new program came along. The fact that one division had briefly tried a form of ABC in the mids and had abandoned it after a change in management only fed the skepticism. As Lutz had anticipated, once the market had rebounded, employees questioned why the company needed to change at all.

Furthermore, with all plants operating at full tilt, line and middle managers questioned whether they had the time to collect the necessary data. Many employees also feared that an unspoken motive for introducing ABC was to eliminate jobs.

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The old cost-accounting system had shaped their skills and their way of thinking about costs. They, too, assumed that ABC was just the latest fad and that once it had passed, life would continue relatively unchanged. Chaika, the assistant controller of the recycling centers, to undertake a pilot project. Senior managers had chosen a plant in New Castle, Kentucky, as the pilot because they wanted to use it to enter a new growth market.

Before plunging ahead, they wanted to make sure they knew the actual costs of processing materials with new multimillion-dollar equipment at the plant. Chaika assembled a team of three Safety-Kleen regional controllers, one financial analyst, and two consultants from Price Waterhouse to join him in installing an ABC system. When they arrived at the plant, the trouble began. The manager told them to get lost.

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As far as he was concerned, accounting had no business telling him how to run his plant. Chaika also ran into resistance from the vice president of recycle-center operations, to whom all the plant managers reported, and the five marketing vice presidents, who were each responsible for one or more lines of hazardous waste.

Operations and marketing agreed that the company needed to change the way it made decisions, but they had different priorities. Marketing wanted information on product costs, and operations wanted information on operating performance. Neither department was happy that the initiative had come out of accounting. In addition, each feared the other would use the numbers to invade its turf. And the five marketing vice presidents were fearful that ABC would change the ground rules for calculating profits and, as a result, might reduce their pay.

After some initial struggles, both Chrysler and Safety-Kleen overcame internal resistance in ways that serve as a model for other companies. First, both companies persuaded critical employees to give ABC a fair shake and, ultimately, to embrace the system.

Second, both mounted major programs to educate employees at all levels in the principles and mechanics of ABC. Third, both began with one plant and then rolled out the program throughout their organizations, making sure that local managers were involved and that there were visible successes.

Finally, once ABC had been introduced at a facility, they quickly dumped the old accounting system. At many companies, top management delegates the implementation of ABC to the accountants. We think that practice is a mistake. At Chrysler, executives got involved from the start, a commitment that continues today. Lutz also decided that finance alone should not control the emerging ABC system. Instead, he gave joint responsibility for the system to James D. Holden, the vice president who is in charge of continuous improvement and the move to process management.

The project team that has spearheaded the implementation program reports to both executives. In addition, both Lutz and Robert J. At work site after work site, both have preached that a process-based structure using ABC could make Chrysler the most agile, lowest-cost automaker in North America by and in the world by Safety-Kleen used a different approach to gain employee acceptance. Within three months, everyone could see that ABC would help the plant cut costs significantly. Equally important, the ABC numbers were extremely helpful in figuring out the amount of new materials that the plant needed to process in order to be competitive and profitable.

Chaika then orchestrated special meetings with operations and marketing and with senior executives, a group that included the vice president of recycle-center operations and the five marketing vice presidents. No one could argue with the numbers. Everyone realized that such numbers would help them make better decisions, which would quickly generate higher profits. Chaika did not have to woo the managers of the other plants.

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  • No company that we know of has invested the time and effort that Chrysler has in educating employees about ABC. From the outset, the courses have had two main purposes: to explain why ABC is necessary and to instruct employees in how to set it up and use it. Chrysler created three groups of courses.

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    The courses in the first group, which introduce the basic concepts of ABC, are for employees at a wide range of levels—from top management down to some hourly workers. The half-day courses explain what ABC is, how it differs from the traditional cost-accounting system, and what Chrysler hopes to get out of it.

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    The courses in the second group are for managers who will have responsibility for implementing ABC at their work sites. The two-day courses make heavy use of case studies and cover the practical application of ABC information in making decisions. For example, a computerized simulation lets people tackle realistic business problems, such as whether the company should start manufacturing a part that it now buys from a supplier.

    The computer program first uses traditional financial information, which allocates many costs arbitrarily, and then ABC information. Most participants figure out the best solution when they use the ABC numbers. In contrast, the answers—and the outcomes—vary widely when they use the numbers from the old accounting system.

    The courses in the third group, which last three to five days, are highly technical and specialized. Their purpose is to teach employees such as industrial engineers, controllers, and investment analysts how to set up and use an ABC-based system—in other words, the skills needed to collect the data, build the models, set up the computer systems, and analyze the information. Safety-Kleen never offered formal classroom training in ABC. Instead, it put employees through a three-month, intensive, on-the-job training program—an approach that makes sense for many smaller companies.

    The team also stressed that the main reason for installing ABC was to help managers expand the business, not shrink it, and it pointed to how ABC had led to hiring, not firing, at the first plants. When Safety-Kleen entered the market for recycling motor oil, it used available tank capacity at hazardous-waste centers in order to reduce transportation costs. Using small trucks, the centers collected the oil from service stations within a mile radius.

    Once a center had enough to fill a big tanker truck, it loaded the oil again and transported it 10 to 25 miles to a rail yard, where it was shipped to East Chicago. Because Safety-Kleen had tank capacity available at its centers, managers considered it a free resource.

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    But an ABC-based analysis showed that the cost of using it certainly was not free. First, the company had not calculated the costs of testing each batch of oil in the truck, unloading it, testing it again in the tank, reloading it into a larger truck, and retesting it in that truck. Second, the company had not considered the cost of unnecessary paperwork: Although oil is not a hazardous material, the company had to document its handling as if it were in order to comply with regulations for hazardous-waste centers. Once the company tallied all of those costs and charged them to the oil-recycling business, the practice quickly stopped.

    The small trucks began taking the oil directly to the rail yard.