INTRODUCTION
Colgate Palmolive is a top worldwide consumer products company, tightly producing products on the oral care, personal care, home care and pet nutrition. Colgate sells its products everywhere the world in over 200 nations and regions. The company has been well established in Malaysia and is very well known of its toothpaste in Malaysia particularly. Oral care has always been the main stream business for Colgate Palmolive and the Board of the company has stressed the use of Activity Based Costing (ABC) System in management of their production cost and price setting of products.
Hence, this report will be focusing on providing concrete information on the improvement of ABC system in used. Key areas for improvement and particularly each activity to implement ABC system will be assessed accordingly. And for each activity, its cost pool and driver will be determined. With the constant aim on cost leadership and product differentiation, ABC system will be discussed as how it aids in increasing market share of Colgate Palmolive. Also, the advantages implementing ABC system rather than traditional costing will be discussed too.
2.0 IMPROVEMENTS TO SEVERAL KEY AREAS TO IMPLEMENT ABC
2.1 Product Design and Processes
The processes of how to design not only shape Colgate's product, but the company's culture and the way Colgate communicates with external parties especially suppliers and consumers. Hence, create a process; as such its purpose is to leave something unnecessary out. Most of the companies out there might want to add on something to make better products, but Colgate should optimize on simplicity.
Consumers prefer simple, it is part of human nature. It will make Colgate's product better and more successful. The complexity created fear. Fear of judgment from the outside world and fear to competitors produce something better and the fear of making a wrong decision.
2.2 Storage of Raw Materials
The raw materials for the products can be divided into two categories, direct and indirect materials. The constant disposal of all types of material in the factory confirms continuous manufacture. Shortage of materials may interrupt constant production. At the same time, tight control should be implemented to avoid losses initiated by over carrying materials.
Material control offers info about precise position of stock existing to Colgate. Regular stock position is crucial for improved management of the business. It can safeguard the quality of material. Quality of material may drops, if it is not kept appropriately. Ordering correct amount of goods can save transport cost and handling charges.
2.3 Setup of Machinery
Lease or purchase the manufacturing facility. Work with engineers, designers or architects to help Colgate in planning effective schemes, construct materials and product run paths and cultivate work and security protocols. Take efforts and employ outworkers or maintenance staff to setup machineries, assembly lines, equipment and materials packing according to Colgate's products design.
2.4 Machine Operating Time
As mentioned, operating time of machineries can be utilised by having a multi-shift crewing arrangement that might compromise some noteworthy operational and competitive advantages. There are 168 hours in a week. On an 8 x 5 schedule, Colgate is exploiting 40 of the 168 offered. Plant and equipment are unavailable for work 128 hours, or 76% of the time! With a different multi shift of worker scheme, Colgate can characteristically cut their manufacturing lead times. Colgate will free up cash and space through inventory reductions and Colgate has successfully doubled their tooling and equipment.
2.5 Cleaning of machine after each production run
The maintenance of machinery goes deep until making sure machine is always at its good condition. Good condition in such a way that all the parts of the machine works well with no imperfection parts and safe to handle. With such details are covered, modernization of the whole workflow can be done as well as increasing the operational safety and capitalize on the superiority of the system. This diminishes the amount of wasted defects, develops the production flow, and avoids variations in production workload.
3.0 STEPS FOR ACTIVITY BASED COSTING
Knowing exact costs for manufacturing, distributing, and servicing products helps Colgate to fix a price to cover product costs and yield a profit. Product costs comprise of direct labor, direct materials and manufacturing overhead. Overhead costs cannot be drawn to units of product in the same way that direct labor and direct materials can. Hence, Colgate must allocate such overhead costs with a distribution method.
Plain principle is that activities, which are jobs, processes, or events, are what cause costs to be incurred. A cost pool is a group of costs that are linked to the similar or comparable activity.
Classify activities and the costs they root
The more activities, the more precisely overhead costs are allocated. First step is done to recognise activities completed which initiate costs. The budgeted production data in a random month for the series of toothpastes in 2012 are as follows:
Toothpastes
Colgate Total Professional Clean
Colgate Sensitive Pro-Relief
Colgate Advanced White
Production Output (units)
50,000
40,000
20,000
Materials per unit @ RM 0.50 per kg
5 kg
10 kg
8 kg
Labour per unit @ RM6 per hour
1/2 hrs
1/2 hrs
1/3 hrs
Machine time per unit
2 hrs
1.5 hrs
2 hrs
Budgeted production overheads for the period are RM 76,300 absorbed on a machine hour basis.
Trace Overhead Costs to Cost Pools
To form cost pools, Colgate has to look for costs that are initiated by the similar or comparable events in each activity level. Collective costs include only those costs associated to the identical driver. For instance, Colgate Palmolive cost pool for the same random month in 2012 may appear as the table below:
Activities
Costs (RM)
Product inspection
32,000
Machine setup
16,000
Machine maintenance
12,000
Product despatch
8,200
Material handling
8,100
76,300
Other information needed in the computation of activity based costing includes:
Orders budgeted: Colgate Total Professional Clean 10 orders, Sensitive Pro-Relief and Advanced White 5 orders each. Each order is expected to require one machine setup and two inspections.
Machine maintenance is carried out frequently based on a fixed amount of machine running hours.
Each product is packed and despatched in crates containing the following number of products per crates: Total Professional Clean 200 units, Sensitive Pro-Relief 500 units and Advanced White 250 units. The quantity of crates used influences product despatch costs.
Material handling costs are influenced by the quantity of material used.
Determine activity rate
Appropriate determination depends on accurate identification of the aspect that initiates the cost in each activity cost pool, and proper measures of activities. An activity driver, an indicator of activity level, is determined for use as the allocation base. Computation of activity rates are as follow:
Product inspection =
Explanation: Total inspection = (10+5+5) Ã- 2 inspections per order = 40 inspections
Machine set-up =
Explanation: Each order requires one machine setup. Since there are 20 orders, hence, there will be 20 setups.
Machine maintenance =
Explanation: (2 hrs Ã- 50,000 units) + (1.5 hrs Ã- 40,000 units) + (2 hrs Ã- 20,000 units) = 200,000 machine hours
Product despatch =
Explanation:
Material handling =
Explanation: (10kg Ã- 50,000 units) + (20kg Ã- 40,000 units) + (16kg Ã- 20,000 units) = 1,620,000 kg
Assign Overhead Costs to Cost Objects
Overhead costs in each activity cost pool are allocated to product lines based on the activity for each product line and then divided by the number of units of that product line to arrive at overhead cost per product unit.
Colgate Total Professional Clean (RM)
Colgate Sensitive Pro-Relief (RM)
Colgate Advanced White (RM)
Overhead:
Product inspection:
T.P.C. : RM800 Ã- 20 inspections
S.Pro-R: RM800 Ã- 10 inspections A.W.: RM800 Ã- 10 inspections
16,000
8,000
8,000
Machine setup:
T.P.C. : RM800 Ã- 10 setups
S.Pro-R: RM800 Ã- 5 setups A.W.: RM800 Ã- 5 setups
8,000
4,000
4,000
Machine maintenance:
T.P.C. : RM0.06 Ã- 100,000
S.Pro-R: RM0.06 Ã- 60,000
A.W.: RM0.06 Ã- 40,000
6,000
3,600
2,400
Product Despatch:
T.P.C. : RM20 Ã- 250
S.Pro-R: RM20 Ã- 80
A.W.: RM20 Ã- 80
5,000
1,600
1,600
Material handling:
T.P.C. : RM0.005 Ã- 500,000
S.Pro-R: RM0.005 Ã- 800,000
A.W.: RM0.005 Ã- 320,000
2,500
4,000
1,600
Total overhead costs
37,500
21,200
17,600
Overhead cost per unit
T.P.C. : RM37,500 ÷ 50,000
S.Pro-R: RM21,200 ÷ 40,000
A.W.: RM17,600 ÷ 20,000
0.75
0.53
0.88
Materials per unit @ RM 0.50
2.5
5
4
Labour per unit @ RM6 per hour
3
3
2
Product cost per unit (RM)
6.25
8.53
6.88
Increase with national market share with cost leadership and product differentiation
By implementing ABC system, cost leadership and product differentiation can be achieved by Colgate Palmolive and eventually increase its national market share in Malaysia. Due to an extremely strict certification practice provided by the ABC system, Colgate deals a level of product integrity and security that is unrivalled by their competitors.
Obviously, Colgate applies an activity-based costing analysis to find its most costly activities and then emphasis on how to diminish those expenses. Targeted cost-cutting cuts the chance of stifling growth in the future. A deep study of activity based costing can usually help cost saving in the range of 20 to 25% (but can be higher or lower). Competition has caused a bigger thought to the overview of numerous products and services of high quality, all in an effort to fulfil consumer demands.
With ABC, Colgate can track both cost and differentiation leads at the same time instead of concentrating on one of these. Consequently, Colgate Palmolive is capable to run in an open market space and make high profits. It involves going outside the conservative confines of the oral care industry and generating a new kind of value by taking in distinctive features. Simultaneously, cost is reduced by removing features that the target market do not value all that much.
Simultaneously, smart marketing can be very useful to be utilised. Facebook is the number one place to encounter and engage with consumers and prospective customers. Facebook has the distinctive capability to let Colgate's supporters and consumers to share latest updates, images, and videos in real time. Other similar approaches will be Twitter and YouTube. Locally, Colgate has been constantly distributing their marketing campaign to primary school all over the country by giving free toothpaste samples.
5.0 Advantages of using ABC systems to calculate product cost for strategic marketing
Proponents of activity based costing first conveyed the detail that product costs resulting from traditional costing methods are providing incorrect info. If the selling price is determined on the foundation of wrongly priced cost, at the end of the year, Colgate may discover that they have not made the expected earnings.
Preferably, Activity-Based Costing is better than Traditional Absorption Costing as it is more precise, practical and applicable. This is because Traditional Absorption Costing system uses only volume-based cost drivers while Activity Based Costing system uses both volume-based and non-volume-based cost drivers. Examples of volume-based cost drivers include: units of production, direct labour hours and machine hours whereas examples of non-volume-based cost drivers include: numbers of products inspection, number of machine set-up, amount of stock requisition and etc.
Theoretically, ABC is an influential diagnostic instrument for aiding Colgate recognises accurately what makes them tick. When it is prepared correctly, it helps Colgate classify which of their products, customers and undertakings are most or least cost-effective, and which costs are avoidable. Resources can then be apportioned more competently to increase moneymaking undertakings and reduce unbeneficial ones.
By using activity based costing it can offers many aids for Colgate as it provides more precise production line costs particularly when non-volume associated overheads are more than the other costs; and several diverse product are manufactured. Additionally, ABC is more adaptable to define costs by cost objectives rather than like the other approaches, which evaluate costs by processes, consumers and so on.
In other words, costs are drawn to activities and then these costs are outlined, in a second phase, to the products that practice the activities. It has increasingly been recognised as the complication of businesses keeps growing and so does their necessity to allocate more and more huge indirect costs to the correct division or activity.
Activity-Based Costing associates and backs the manufacturing procedure. It offers info to shape business streams and material management, activity costs and processes, value added against non-value added breakdown and productivity analysis used to develop the make versus buy policymaking process. ABC also allowing Colgate's manufacturing manager to manage the resources under their regulation more efficiently.
When ABC is combined with other controlling initiatives, it provides a comprehensive approach to measure cost and measure influences of projected variations. Since ABC can measure cost, process development teams can highlight their attention to areas that will produce the utmost influence on profits.
ABC uses the standard of counting business processes & activities into cost calculations to make them more precise. The important components for this technique are logistics activities. ABC allows measure of the cost and performance proficiency at activity level which eventually benefits in refining the consistency of logistics cost & benefits analysis considerably. ABC eliminates the inadequacies of traditional logistics accounting systems. It helps to assess every single activity and helps to measure the performance of logistics activities, their supply consumption in contrast to their actual performance.
In contrast, ABC system brings reflectivity. It also brings quantification. ABC joins action words to management thoughts and vice versa. It displays end-users where answerability and authorization overlap. It is a mirror replication of Colgate's costs of business progressions.
6.0 Conclusion
On the basis of the established ABC system, Colgate is able to make improvement on it after identifying the key areas to be enhanced in order to utilise the ABC system and Activity Based Management throughout the product costing processes. Appropriate cost pool and cost drive measures are essential for the evaluation of product cost as Colgate has a very wide-ranging of production line. Consequently, a more accurate setting of product cost is able to help Colgate to design more workable marketing efforts without any waste of resources available.
