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Unit 13: Activity-based Costing

13.4 Activity-based Budgeting Notes

A budget is a statement expressed in quantitative/monetary/both terms prepared prior to a
defined period of time for the policy to be pursued during that period for the purpose of
achieving a given objective. In other words, a budget is always prepared ahead of time, it is
expressed either in quantitative terms or monetary terms or both, it reflects the objective to be
achieved during that period and hence the policy to be followed during that period is put in the
budget. Budget helps in planning for the future. It also helps in controlling as there is a continuous
comparison of actual with budget. Any deviation between the two is identified for taking
suitable action.

The traditional budgeting is based on traditional cost accounting i.e. on the basis of allocation,
apportionment and absorption of overheads in the products. However, the Activity-based
Budgeting is different from the traditional budgeting in the sense that it provides a strong link
between the objectives of organisation and objectives of a particular activity. In other words, it
involves identification of activities and dividing them in value adding and non value adding
activities. The non-value adding activities are eliminated in due course of time. Activity-based
Budgeting, thus, requires identification of activities of the organisation, establishing the factors
which cause costs, the cost drivers and then collecting the costs of the activities in cost pools. The
following are the features of Activity-based Budgeting.
 It uses the activity analysis to relate costs to activities.
 It identifies cost improvement opportunities.
 There is a clear link between strategic objectives and planning and the tactical planning of
the ABC process.

13.4.1 Activity-based Management

The activity-based Management is a tool of management that involves analysing and costing
activities with the goal of improving efficiency and effectiveness. Though it is closely related to
the Activity-based Costing, still it differs from the same in its primary goal. The activity-based
Costing focuses on activities with the object of measuring the cost of products/services. It tries
to compute the cost as accurately as possible. On the other hand, activity-based Management
focuses on managing the activities themselves. In activity-based Costing resources are traced to
the activities for the purpose of computing the costs while in activity-based Management,
resources are traced to activities for evaluation of the activities themselves. In other words,
efforts are made to improve the activities further. Thus, activity-based Management is a set of
actions that management can take, based on information from an activity-based costing system,
to increase/improve profitability.
For continuous improvement, activity-based-management attempts the following analysis.
 Cost Driver Analysis: The factors that cause activities to be performed need to be identified
in order to manage activity costs. Cost driver analysis identifies these casual factors. For
example, in a stores department, it may be observed that slow moving and obsolete stock
is not disposed of in time, the reason being the staff in the stores is not trained properly in
this area. Managers have to address this cost driver to correct the root cause of this problem
and take proper action.
 Activity Analysis: Activity analysis identifies value added and non value added activities.
This analysis identifies the activities in the organisation and the activity centres that
should be used in Activity-based Costing system. In Activity-based Management, as said
above, identification of activities into value adding and non value adding is made and
efforts are made to eliminate the non value adding activities.

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