The implementation of activity-based costing;
A case study on Pension Insurance company X
University of Groningen
Faculty of Economics and Business
Master of Science Business administration
Organizational and management control
Name student: I.J.W. Theuws Address: Meeuwerderbaan 4a
9724 GV Groningen Supervisor: dr. S. Tillema
Co-assessor: drs. P.C.G. Molenaar Student number: 1656309
e-mail address: i.j.w.theuws@student.rug.nl
PREFACE
This master thesis is the last part of my master Organizational and Management Control at the University of Groningen. The process of writing this thesis can best be described as one with ups and downs. Luckily, I had a great supervisor who advised and supported me and gave me recommendations during the forthcoming of this thesis. That is why I first and foremost want to thank: dr. S. Tillema. I also want to thank drs. P. Molenaar for the feedback on my thesis.
Furthermore, I would like to thank the manager business control of Pension Insurance company X, Mr. Vinke, the employee of the Finance department of Pension Insurance company X, and the software organization for their cooperation. Finally, I would like to thank my family, who will always support me in every way they possibly can.
I would like to wish the reader of this thesis the same amount of pleasure that it has given me while writing.
Executive summary
Robert Kaplan and Robin Cooper introduced activity-based costing in the late 1980’s. With the use of activity-based costing, it is possible to identify the activities which add value and the activities which do not add value. This thesis takes a closer look at the implementation of activity-based costing within an organization. The thesis consists of a literature review and an empirical research.
According to the literature, several factors influence a successful implementation of activity-based costing. These ‘factors of success’ can be divided into three stages. The three stages with the accompanying factors can be seen as a ‘normative framework,’ which shows how activity-based costing should be implemented. The normative framework can be described as follows:
Stage 1: Introduction.
Create a design team. The members of the design team should be part of different departments.
Select a champion. This is the key person of the design team.
Prepare an action report. In this report the actions which have to be taken are defined. Stage 2: Education.
Educate. Employees need to understand how activity-based costing can be used in their jobs. They need to understand the advantages of activity-based costing. This can be achieved by the education of employees.
Stage 3: Linking and removing.
Link. In the last stage, activity-based costing can be linked to evaluations and incentives. Rewarding employees motivates them to use activity-based costing.
Eliminate. The last step is the elimination of the old cost accounting system.
There is one general factor which is important in all three stages; namely: top management support. Top managers must support the implementation of activity-based costing to provide the resources which are needed during the process. They also have the ability to motivate employees by linking activity-based costing to incentives and to the goals and strategies of the organization.
Insurance company X. They recently implemented activity-based costing in a successful way. Pension Insurance company X made the decision to implement activity-based costing because of external reasons. One important reason was the usurious pension affair. The usurious pension affair might have played an important role in the success of their implementation process
Activity-based costing within Pension Insurance company X is used for the determination of the Embedded Value. The costs within this discounted cash flow method, are based on activity-based costing. Pension Insurance company X also uses activity-based costing in scenario analyses. With these analyses, the impact of strategic decisions can be examined. In 2010, activity-based costing will also be used for the classification of the insurance products into: profitable products, less profitable products and non-profitable products.
Based on the case study, this thesis concludes that a few adjustments have to be made to the first stage of the normative framework. In the first stage, it appeared possible that the design team consists of members which are part of one department. In Pension Insurance company X, the design team consisted mainly of members of the Finance department. The reason why this design team made the implementation successful may be due to the external advisors who assisted the design team and to the communication between the departments. Another adjustment which has to be made to the first stage is related to the action report. This report should describe not only activities which have to be taken during the implementation process, but it should also provide an overview of the expected results and the time required.
The second and third stage of the normative framework is in accordance with the implementation process of Pension Insurance company X. When the adjustments in stage one of the normative framework have been made, the framework can be applied to the implementation process of Pension Insurance company X.
Insurance company X. Because of an external pressure, they decided to change the way in which costs are allocated. New rules were established for allocating costs based on activity-based costing. The rules of activity-activity-based costing were translated into real actions. It is possible that because of the usurious pension affair, employees accepted the rules more easily. Therefore, the translation of the rules into actions may be performed faster. The repeating actions became more and more routines. Finally, the rules and routines became institutions. In other words, allocating costs to the three legal entities on the basis of activity-based costing became ‘the way we do things around here.’
Table of content
1. Introduction p. 8
2. Literature review p. 10
2.1 The difference with traditional cost-accounting p. 10
2.2 Implementation stages p. 11
2.3 Factors of success p. 12
2.3.1 Stage 1: Introduction p. 12
2.3.2 Stage 2: Education p. 13
2.3.3 Stage 3: Linking and removing p. 13
2.4 Normative framework p. 14
2.5 Accounting change p. 14
2.5.1 Old Institutional Economics p. 15
2.5.2 Resistance p. 18
2.6 Summary literature review p. 19
3. Research method p. 20
4. Analysis p. 23
4.1 Pension Insurance company X p. 23
4.2 The reason for implementing activity-based costing p. 24
4.3 Implementation stages p. 25
4.3.1 Stage 1: Introduction p. 25
4.3.2 Stage 2: Education p. 27
4.3.3 Stage 3: Linking and removing p. 27
4.4 Recent situation p. 28
4.4.1. Activity-based costing in practice p. 29
5. Conclusions p. 31
References p. 35
Appendix p. 38
1. INTRODUCTION
Activity-based costing is useful for those organizations which have overhead costs that are not generated in proportion to production output (Banker, Potter and Schroeder, 1994, p. 116). Once an organization has made the decision to adopt activity-based costing, the factors that will lead to a successful implementation need to be considered (Fortin, Haffaf and Viger, 2007, p. 234). Many articles discuss factors which will lead to a successful implementation of activity-based costing (Anderson, 1995; Fortin and Haffaf and Viger, 2007; Kaplan and Argyris, 1994; Ness and Cucuzza, 1995; Shields, 1995). Unfortunately, most writers did not take into account a deeper understanding of the impact of activity-based costing on the behavior of the employees. Even if the change leads to benefits for the organization, employees may resist the accounting change. Thus, resistance might be independent of how skillfully a change is managed.
The research question of this thesis is:
Which factors explain the extent to which the implementation of activity-based costing within organizations is successful?
The implementation stages of Anderson (1995) will be used to classify the success factors. Besides this, the impact of accounting change on individuals will be investigated. In this discussion ‘The process of institutionalization’ by Burns and Scapens (2000) will be explained. The research is not only based on a literature review; there will also be a case study within Pension Insurance company X which is a division of the Company X Group. Pension Insurance company X is part of the top of the Dutch Pension Insurance market. They made the decision to implement activity-based costing because of external pressure. This thesis will give an inside in their implementation process and the way in which they use activity-based costing in practice.
2. LITERATURE REVIEW
Activity-based costing was introduced in the late 1980’s by Robert Kaplan and Robin Cooper. The objective of activity-based costing is ‘to understand overhead and the profitability of products and customers’ (Seal and Garrison and Noreen, 2006, p. 298). With the use of activity-based costing, the activities which add value and those activities which do not add value can be identified.
2.1 The difference with traditional cost-accounting
The main difference between traditional cost accounting and activity-based costing is related to the assignment of the non-manufacturing costs. In traditional cost accounting only the manufacturing costs are assigned to the product. Manufacturing costs are direct materials, direct labor and manufacturing overhead (Seal et al., 2006, pp. 23-24). The non-manufacturing costs are assigned to the period in which they are incurred or accrued (Seal et al., 2006, p. 41). In activity-based costing these non-manufacturing costs are assigned to the product (Seal et al., 2006, p. 299). Another difference is that in activity-based costing ‘a cost is assigned to a product only if there is good reason to believe that the cost would be affected by decisions concerning the product’ (Seal et al., 2006, p. 299). The main idea behind activity-based costing is that not the products but the activities cause costs, and the demand for activities is created by the cost objects (Lindahl, 1997, p. 62; Bharara and Lee, 1996, p. 1111). Cost objects can be a product, a service or a customer.
Traditional cost accounting Activity-based costing
First stage First stage
Second stage Second stage
Figure 1: Traditional cost accounting versus activity-based costing; Two stage approach (Cooper et al., 1992, pp. 9-10)
2.2 Implementation stages
The reason why organizations decide to implement activity-based costing can be because of internal pressure. For example, management wants to get more insight in the profitable and non-profitable products (Yahya-Zadeh, 1998). Another reason why an organization decides to implement activity-based costing is because of external pressure. For example, an organization is enforced to implement a cost accounting system like activity-based costing through legislation. When the decision is made to introduce activity-based costing, the implementation is not always successful. Ness and Cucuzza (1995, p. 130) investigated the implementation of activity-based management within organizations. Activity-based management can be seen as the use of activity-based cost information and performance measurements to influence management action. Ness and Cucuzza (1995, p. 130) found that of the thousand companies which wanted to implement activity-based management, only 10% now uses activity-based management within their organization. The other 90% gave up. Apparently, they did not know how to deal with the change in the organization.
According to the literature about the successful implementation of cost management, change occurs in stages (Anderson, 1995, p. 7). Three stages can be identified. The preceding stage has to be attained before one can start with the next stage. The definition of what is success differs between these stages. The first stage is the ‘Introduction stage.’ In this stage the first steps of the implementation will be taken. This stage can be attained when a design team is created and a plan is drawn. The second stage is called the ‘Education stage.’ In this stage the employees will be trained. They will learn how to use activity-based costing in practice. The
Resources Resources
Cost Pools Activities
third stage, ‘Linking and removing,’ can be attained when activity-based costing is connected to the reward systems. Subsequently, it is possible to remove the old system.
The next sections will take a closer look at the three stages and their accompanying factors of success.
2.3 Factors of success
Several articles discuss the factors which influence a successful implementation (Anderson, 1995; Fortin and Haffaf and Viger, 2007; Kaplan and Argyris, 1994; Ness and Cucuzza, 1995; Shields, 1995). These factors can be assigned to the implementation stages of Anderson (1995, p. 7). Besides the different factors in each stage, there is also one generic factor; namely, top management support. Support by top management is important in all stages. Top management must support the initiative to provide the resources needed in the implementation process. Top managers need to understand the reason for implementing a new cost accounting system otherwise, they will continue to use the traditional cost accounting system (Seal et al., 2006, p. 300). They also have the ability to link goals, strategies and incentives to activity-based costing (Shields, 1995, p. 150). Therefore, they can stimulate employees to make use of activity-based costing. The three stages and the associated factors will be discussed next.
2.3.1 Stage 1: Introduction
2.3.2 Stage 2: Education
Education is the main objective of the second stage. When employees at all levels learn more about activity-based costing, they will see the advantages of the system. Employees need to understand how activity-based costing should be used in their jobs (Shields, 1995, p. 150). This is related to one of the determinants of Fortin, Haffaf and Viger (2007, p. 231), namely ‘commitment.’ Furthermore, employees must understand what the company is trying to achieve with the use of activity-based costing (Ness and Cucuzza, 1995, p. 130). This ensures an efficient and effective use of the activity-based costing systems (Shields, 1995, p. 150). Training in designing, implementing and using activity-based costing is important for employees to understand, accept, and feel more comfortable with activity-based costing (Shields, 1995, p. 150).
2.3.3 Stage 3: Linking and removing
2.4 Normative framework
Figure two illustrates the general factor, top management support, and the stage-specific factors.
Figure 2: Normative framework: Factors that influence a successful implementation of activity-based costing
The literature discussed so far showed the difference between traditional cost-accounting and activity-based costing. Furthermore, the three stages with the corresponding factors were explained. However, it is questionable if these factors can guarantee a successful implementation of activity-based costing. The next section will take a closer look at the impact on the behavior of employees because of an accounting change.
2.5 Accounting change
The implementation of activity-based costing can be seen as an accounting change. Figure two shows the factors which influence a successful accounting change. This ‘factor approach’ has limitations. For example, there is no limit to the number of possible factors which influence a successful outcome (Malmi, 1997, p. 460). Another limitation -which will be discussed more thoroughly in this section- is based on the resistance of employees because of the accounting change. Ness and Cucuzza (1995, p. 133) revealed in their study of activity-based costing at Safety-Kleen and Chrysler, that resistance by employees is one of the main reasons for implementation failure. When these organizations introduced activity-based costing, many employees resisted because they thought it would change the existing power structure. Others did not like activity-based costing because it was new. Managers did not like
Stage 1: Introduction Stage 2: Education Stage 3: Linking and removing
- Train employees at all levels - Create commitment
- Link activity-based costing to evaluation and incentives - Remove the old cost accounting system - Create a design team with
members of different departments
- Select a champion - Prepare an action report (External validity)
the idea because of the huge amount of work needed to implement activity-based costing. And some were afraid that activity-based costing would reveal wasteful practices that had been hidden from the old accounting system. According to Ness and Cucuzza (1995, pp. 133-134) resistance in the implementation process can be overcome with education.
Kasurinen (2002, p. 325) stated that it is also possible that employees resist when they get more responsibility. This kind of resistance is independent from how skillfully the change is managed. Thus, the implementation of activity-based costing has a deeper impact on the behavior of employees than the ‘factor approach’ assumes. That is why we will now focus on the following question:
What kind of impact has accounting change on the behavior of employees?
2.5.1 Old Institutional Economics
Old institutional economics tries to explain why people are opportunistic and why they express different types of behavior (Scapens, 2006, p. 14). Burns and Scapens (2000) used the Old Institutional Economics to develop a framework which give insight into the relation between institutions, actions, rules and routines. Before the framework will be clarified, the definitions of institutions, actions, rules and routines will be defined.
According to Barley and Tolbert (1997, p. 96) institutions are ‘shared rules and typifications that identify categories of social actors and their appropriate activities or relationships.’ This definition does not classify the term ‘social actors.’ Thus, it can be applied on individuals but also on groups of individuals (Barley and Tolbert, 1997, p. 96). Individuals see institutions as ‘the way things are’ within an organization (Burns and Scapens, 2000, p. 7). Institutions are not related to historical circumstances (Burns and Scapens, 2000, p. 11). This means that they are embedded in the perception and knowledge of individuals.
rules about the use of activity-based costing are formulated in a manual. These rules were determined when Company X was acquired by Company Y. The procedure about activity-based costing of company Y was imposed on the acquisition. When these rules are reproduced over time, the rules are established and routines will emerge. These new routines must work along with the other organizational routines (Burns and Scapens, 2000, p. 12). The new routines will be shaped into the existing institutions when they become widely accepted in the organization.
Institutional Realm a d a d b b b b b b c c c c c c Time Realm of Action
Figure 3: The process of institutionalization by Burns and Scapens (2000, p. 9)
Scapens (2006, p. 16) described an example with five monkeys about the transformation of routines into institutions.
A cage contained of five monkeys. In this cage a banana hanged on a string and a stairs was placed underneath it. When one of the monkeys went to the stairs and started to climb the stairs, the other monkeys were sprayed with cold water. When another monkey tried to climb the stairs, the other monkeys were again sprayed with cold water. After a while, when the third monkey tried to climb to stairs, the other monkeys prevented it by attacking the third monkey. Then, a monkey was removed from the cage and replaced by a new monkey. The new monkey sees the banana and wanted to climb the stairs. At the same time, he was attacked by the other monkeys. When another monkey was removed from the cage and replaced by a new monkey, the same process appeared; the new monkey tried to climb the stairs and the other monkeys attacked the new monkey. The previous new monkey took part of the attack on the new monkey. When all the original monkeys were replaced one-by-one, none of the remaining monkeys had ever been sprayed with cold water. But none of them would try to climb the stairs to get the banana. Because, they think that is what always has been done around here. For all the new monkeys, the institution –not climbing a stair- is now embedded in their perception and knowledge.
Routines
Rules
Routines
The next section will take a closer look at the resistance of employees that may appear because of an accounting change.
2.5.2 Resistance
Reger, Mullane, Gustafson and DeMarie (1994, p. 31) go beyond the advice to train employees if there is resistance. When there is resistance because of a change initiative, self-interest must be taken into account. Resistance of employees is dependent on the relationship between organizational identity and the implementation process. Organizational identity is what employees believe as central and typical about their organization. These beliefs have an impact on the resistance to change because ‘they are embedded within members’ most basic assumptions about the organization’s character’ (Reger et al., 1994, p. 34). Therefore, an accounting change often requires a new mindset that is different from the current mindset of the employees. Burns and Scapens (2000, p. 5) confirm this thought. However, they stated that ‘management accounting practices can both shape and be shaped by the institutions which govern organizational activity’ (Burns and Scapens, 2000, p. 5). An accounting change could lead to an adaptation within the institutions. A change which is related to existing routines and institutions will be easier to implement than a change which is not related to the present routines and institutions (Burns and Scapens, 2000, p. 12). The latter can result in resistance of employees. Thus, for managing a change into an organization, a clear understanding of the institutions and routines is needed.
There are two specific mental barriers which influence the acceptance of changes in the organization (Reger et al., 1994, p. 34). The first barrier implies that resistance results from not understanding the change. An example of an organization where the first barrier occurred is at a gas processing company named ‘Eagle.’ At first, the employees of Eagle were confused and worried about how an accounting change would be implemented and used within their organization (Siti-Nabiha and Scapens, 2005, p. 45). Because of the change, employees could not predict the actions of the supervisor anymore. They did not know what to expect since the employees did not have experience with the new system. Thus, if the change is not integrated into the mental models of organizational identity, employees believe that the change will not work.
will not benefit the organization. According to the employees, the accounting change conflicts with their believes about the organization.
2.6 Summary literature review
3. RESEARCH METHOD
In the introduction the research question of this thesis was formulated as:
‘Which factors explain the extent to which the implementation of activity-based costing within organizations is successful?’ The normative framework as illustrated in chapter two led to an additional question. In the last stage of this framework, activity-based costing was linked to incentives and evaluations. Furthermore, the old cost accounting system was removed. But what happens next? How is activity-based costing used in practice?
These questions will be answered with the use of a case study. Through a case study, it is possible to get a deeper understanding of the implementation stages of activity-based costing within an organization. Besides, a case study helps to understand why an organization chose to implement and use activity-based costing in a specific way. When a survey instead of a case study had been used, the research results could be generalized (Lukka and Kasanen, 1995, p. 71). According to Lukka and Kasanen (1995, p. 77) generalization is also possible within case studies. With the use of a case study, theoretical generalization can be made. The literature led to a normative framework which will be tested in a case study. It is possible that the findings in the case study will lead to adjustments in the normative framework. The adjusted framework can be important for other organizations which are situated in the same circumstances as Pension Insurance company X.
The sample size of a case study is small and there will often be a qualitative method of data analysis (Lillis and Mundy, 2005, p. 130). In this thesis a qualitative method of data collection has been used; namely interviews. Through interviews with people who participated in an implementation process, a clear picture of the implementation stages was derived. Besides this, it was possible to discover the reason for resistance to changes. The case which was examined for this research is an organization which implemented activity-based costing recently. Because of this, details about the implementation process were still remembered. Another feature of the case is that the implementation process is finished and that activity-based costing is currently in use.
implementation of activity-based costing within different fields; for example, in education, government and health care, and in the industrial sector. The director of Het Zuiderlicht also accompanied Pension Insurance company X during the implementation process. The subject of the interview with him was, however, not only about the three stages of the implementation process within Pension Insurance company X, but also within other organizations which the director of Het Zuiderlicht accompanied. Furthermore, also the resistance of employees which may occur because of the implementation of activity-based costing was discussed. The director of Het Zuiderlicht as an outsider, was expected to speak objectively about the implementation of activity-based costing within Pension Insurance company X. Moreover, he was in good position to make comparisons because of his experience with other organizations. The interview was recorded with a voice recorder. After the interview, an interview report was made and sent to the director of Het Zuiderlicht. He made several comments on the interview report.
Second, the manager business control of Pension Insurance company X was interviewed. She has been working in Company X for five years. The last one and a half year, she is manager business control within Pension Insurance company X. It was interesting to talk to her because she is the head of the activity-based costing design team. The subject of the interview was the implementation process and the possible resistance of employees at Pension Insurance company X. The questions were open ended and very general. In this way, the interviewee was free to tell anything about certain subjects. If necessary, more specific questions were asked; for example, about a specific success factor of the implementation process. The interview with the manager business control was not recorded. An interview report was made and sent to the manager business control for approval.
An employee of a software organization which accompanied Pension Insurance company X also answered questions about the implementation process of Pension Insurance company X. The name of this organization will not be disclosed. It was essential that she answered some questions, because she accompanied Pension Insurance company X in an early stage of the implementation process. The subject of the interview with her was about the resistance that may have occurred during the implementation process. The employee of the software organization, answered these questions with the use of e-mail.
4. ANALYSIS
4.1 Pension Insurance company X
Pension company X is one of the seven divisions within the Company X Group. The other divisions are: Health, Europe, Direct distribution, Intermediary distribution, Bank distribution and Social security. The Company X Group was formed in 1995. It provides financial services in the Benelux. Pension company X can be divided into five units namely: Insurance, Capital management, Stock market, Real estate and a Shared Service Centre. Because every unit has different services and different circumstances, Pension company X made the decision to implement activity-based costing in each unit separately. This case study focuses on the implementation of the unit Pension Insurance in Company X.
Pension Insurance company X can be divided into three legal entities namely: ‘Company A,’ ‘Company B’ and ‘Company C.’ This is illustrated in figure four.
Figure 4: The legal entities of Pension Insurance company X
Pension Insurance (Part of Pension Division) Direct Distribution of Life (Part of Direct Distribution division) Intermediary Distribution of Life (Part of Intermediary Distribution Division) Company C Company B Company A
4.2 The reasons for implementing activity-based costing
There were external reasons why it was important for Pension Insurance company X to implement activity-based costing. One reason was ‘De woekerpensioen affaire,’ translated as the usurious pension affair (Wierstra and Van den Berg, 2008). In an usurious pension, the high costs of an insurance organization are directly subtracted from the monthly contribution of the employer and the employee (Verdegaal, 2008). In some cases, the costs were 50% of the contribution paid. The remainder of the contribution was invested (Verdegaal, 2008).
In the past, employees did not have any insight into the extent to which his or her contribution was used to cover the costs of the insurance company. Since 1995, however, there is much criticism about the high costs that insurance companies allocate to their clients. According to Mr. Boot -advisor of the AFM- there is not enough transparency in the costs charged by insurance companies. The discussion continued in 2004, when research of the AFM showed that the costs of mutual funds are not always clear from the prospectus that their clients receive (Autoriteit Financiële Markten, 2004, p. 22). In 2006, the dissatisfaction about the lack of transparency of insurance companies increased (Klachteninstituut Financiële Dienstverlening, 2008, p. 1). The AFM published another research report which analyses the financial information that insurance companies provide to their clients about the expected revenues of their investment. The research concluded that in (almost) all insurance companies, there are shortcomings in the financial information provided (Autoriteit Financiële Markten, 2006, p. 16). An advisory committee, called ‘Commissie De Ruiter,’ was established. The main goal of this committee was to provide more transparent information for the consumer.
In July 2007, The ‘Stichting Woekerpolis Claim’ and the ‘Vereniging Consument & Geldzaken’ started a trial against Nationale Nederlanden. The information of Nationale Nederlanden about the costs and risks of their insurance product: ‘Flexibel Verzekerd Beleggen’ would be insufficient.
allocation of costs to pension insurance products needed to be more precisely. For this reason, Pension Insurance company X decided to implement activity-based costing.
In March 2007, the implementation process at Pension Insurance company X started. Since the implementation of activity-based costing, Pension Insurance company X allocates the overhead costs to its three legal entities. The overhead costs of Pension Insurance company X can be divided into ‘first cost’ and ‘continuous costs.’ The first costs are the costs which have to be made to attract clients. The continuous costs are these costs that are made till the maturity of the contract. Pension Insurance company X implemented activity-based costing for 80%. This means that 80% of the overhead costs is allocated to the activities within the three legal entities. The other 20% consist of the overhead costs that can not be allocated to the legal entities. These are facility costs.
4.3 Implementation stages
Several questions which were asked in the interviews were indirectly related to the implementation stages. The following sections summarize the answers on those questions and compare them to our expectations based on the literature.
4.3.1 Stage 1: Introduction
In de first stage, one of the factors which was expected to lead to a successful implementation was the creation of a design team. Because within Pension company X five units implemented activity-based costing, a team comprising the managers of the implementation processes of these five units was established. According to the manager business control of Pension Insurance company X, this was an advantage for the implementation process because this implementation team could provide help when managers were confronted with problems. Furthermore, the implementation team shared their experiences. Besides the implementation team, a design team for the implementation of activity-based costing within Pension Insurance company X was set up. Within this design team, the Board of directors appointed a champion.
reasons. First, when activity-based costing was implemented the financial department had a shortage of employees. Five FTE’s of the ten were open. Second, Pension Insurance company X needed an expert on the implementation of activity-based costing. An employee of a software organization was also involved in the design team. The employee of the software organization explained that she or one of her colleagues usually becomes part of the design team in an early stage. The design team further consisted of employees of the Finance department. Since the design team within Pension Insurance company X mainly consisted of one department, there is a conflict in the first stage between practice and the expectations based on the literature.
The danger when only one department is involved, is that activity-based costing may only benefit the needs of that department. The director of Het Zuiderlicht agrees that it is important that the costing system should not become only interesting for the Finance department. Activity-based costing also needs to be relevant for management. That is why it is necessary that management is constantly involved in the implementation process. Within Pension Insurance company X, the managers of Operations, the management team of Finance and the Board of directors were informed by the manager business control about the status of the implementation process. There was also contact with the heads of other departments. This contact was aimed at the definition of the costs of activities in the concerning department.
Kaplan and Argyris (1994, p. 84) argued that the design team should write a report that describes the actions which have to be taken to implement activity-based costing within the organization. The director of Het Zuiderlicht agrees with Kaplan and Argyris by explaining that, in general, after the idea of implementing activity-based costing has been approved, a report is made. In his view, the literature did not mention two important components of the action report. Besides the steps which have to be taken, the report needs to consist of:
the time required for the implementation; and the expected results.
The manager business control of Pension Insurance company X stated that they had one big advantage in the implementation process. In 2005, Company X merged with Company Y. Before this merger, Company Y tried to implement activity-based costing. The goal of Company Y was to implement activity-based costing bottom-up for 100%. This implementation goal appeared to be too ambitious and finally the implementation failed. After the merger, the implementation failure of Company Y led to an advantage for Company X. As part of the attempt of Company Y to implement activity-based costing, a process model of the organization was defined. Besides small adjustments, this process model could be used for the implementation of activity-based costing at Pension Insurance company X. In this way, Pension Insurance company X could save a lot of time.
4.3.2 Stage 2: Education
In the second stage, education is very important. Through education the employees learn how activity-based costing can be applied in their daily jobs (Shields, 1995, p. 150). Besides, education ensures an efficient and effective use of the activity-based costing system (Shields, 1995, p.150). The director of Het Zuiderlicht observes that management often shows distrust about the implementation of a new system. This is just a phase and it is mainly based on lack of information. The director of Het Zuiderlicht further explained that, the department of Finance & Control needs education for the use of the software program. In Pension Insurance company X, employees at all levels learned more about activity-based costing. The employees of the Finance department participated in different workshops. The managers learned more about activity-based costing internally; by the director of Het Zuiderlicht. The advantage of the attendance of two external advisors in the implementation process was that the employees and the manager business control could learn about the use and the advantages of activity-based costing on the job. As a result of the education, the employees may be more committed to activity-based costing. Because they may see the advantages of the new cost system. It can be concluded that the expectations of the literature in stage two are performed in Pension Insurance company X.
4.3.3 Stage 3: Linking and removing
connected to activity-based costing. The manager business control agrees with Shields (1995) by explaining that the link between the responsibility of managers and activity-based costing, motivates managers to use the new cost system. In the future, the use of activity-based costing will be related to the lower level employees. Then, activity-based costing will be combined within Business Performance Management (interesting readers about Business Performance Management see the article of Ariyachandra and Frolick (2008)).
But when is it possible to use the new cost accounting system?
According to the director of Het Zuiderlicht, this depends on the way in which activity-based costing will be implemented. When an organization, wants to implement activity-based costing next to the current cost accounting system, the implementation period will be short. But, when an organization wants to implement activity-based costing to replace the old cost system, the implementation period will be longer. In this case, the employee of the software organization explained, both systems are first used next to each other. And when there is enough confidence in the new cost system, it is possible to eliminate the current cost system. Pension Insurance company X also decided to implement activity-based costing to replace the current cost accounting method. After six months, it was possible to use activity-based costing in practice. The current cost system will not be used anymore for the allocation of overhead costs to the three legal entities.
4.4 Recent situation
the three legal entities is based on activity-based costing. For the new employees, these institutions are disassociated from historical circumstances.
4.4.1 Activity-based costing in practice
Pension Insurance company X uses activity-based costing in two ways.
First, activity-based costing is used for the determination of the Embedded Value. The Embedded Value measures ‘the value of business currently on the books of an insurance company’ (Whitfield, 2008, p. 26). The embedded value can be calculated as:
Market value of assets + Current value of expected future profits on in-force business
For the determination of the ‘current value of the expected future profits on in-force business,’ activity-based costing is used.
The second way in which Pension Insurance company X uses activity-based costing is in scenario analyses. With the use of scenario analyses, the impact of decisions can be examined. What happens when we assign a particular part of the overhead costs to the ‘first costs’? What happens when we allocate this part of the overhead costs into the ‘continuous costs’? These are questions which are answered with the use of a scenario analysis. Unfortunately, Pension Insurance company X can not spend much time on these analyses. In the future, they want to spend more time on the scenario analyses.
In 2010, Pension Insurance company X will use activity-based costing for the determination of the real value of all insurance products (Wijk van, 2008). The real value of a product can be defined as:
Real value = Sales price – Cost price – risk premium
Activity-based costing will be used in the cost price. This is needed because the time and effort that Pension Insurance company X needs to spend differs between insurance products. With activity-based costing these overhead costs will be allocated to the products. When, the risk premium of a product is also subtracted from the sales price, the real value of a product will appear (Wijk van, 2008). Based on real value, products can be divided into three categories:
profitable products,
However, the goal of Pension Insurance company X is not to remove all the products which are non-profitable. Because, the non-profitable products can also bring in money. The buyers of these non-profitable insurance products may also be the buyers of the profitable insurance products (Wijk van, 2008).
5. CONCLUSIONS
This thesis focused on the implementation process of activity-based costing in an organization. The literature showed that the implementation of activity-based costing in an organization occurs in stages. The factors which are important for a successful implementation can be assigned to these stages. The literature review further discussed the impact which accounting change has on the behavior of employees. Old Institutional Economics was used to explain why people express different types of behavior. The literature led to the question for more knowledge about the use of activity-based costing into practice.
The empirical research was based on a case study in Pension Insurance company X. The members including the champion of the established design team were all part of the Finance department. This is in conflict with the literature. It is possible that because of the attendance of the two external advisors, Pension Insurance company X could implement a system which was not only important for the Finance department. The two advisors had experience with the implementation of activity-based costing. Another reason why the implementation led to a cost system which is also important for other departments is because of the communication between departments that stayed in tact. Although this communication was minimal, it seemed to be enough.
The design team is responsible for the creation of an action report. According to the expectations based on the literature, the action report needs to consist of the steps which have to be taken. Based on the case study the action report also needs to consist of: the time required and the expected results. In this way, the implementation process can be controlled and if necessary adapted.
The director of Het Zuiderlicht informed the managers of Pension Insurance company X about activity-based costing. The manager business control explained that the employees of the Finance department participated in different workshops. They knew what to expect when activity-based costing was implemented into practice. Nevertheless, if the employees were facing difficulties related to activity-based costing, the external advisors could provide help on the job.
business control, this motivates managers to use activity-based costing. The managers encouraged the employees to use activity-based costing. In the future, employees at lower levels will be confronted with targets which are related to activity-based costing in Business Performance Management.
Research showed that the three implementation stages were successfully attained. Thus, it can be concluded that the implementation process of Pension Insurance company X was successful. However, small adjustments have to be made to the normative framework. Figure five shows the implementation process of activity-based costing within Pension Insurance company X.
Figure 5: Implementation framework of Pension Insurance company X
One of the reasons why Pension Insurance company X decided to implement activity-based costing was because of the usurious pension affair. It is possible that this had a great impact on the success of the implementation process. This might be another reason why employees were motivated to work with activity-based costing. Because of this affair, insurance companies needed to provide more transparency about their costs allocations. It is possible
Stage 1: Introduction Stage 2: Education Education - Inform management internally.
- Let employees of the Finance department participate in workshops. - Create commitment
Design team
- Create a design team of members of the finance department.
- Select a champion - Communication between different departments. - Bring in external advisors.
Action report
- Prepare an action report. - Define the expected results. - Define the required time.
Top management support
Link
- Link the financial targets of managers to the use of activity-based costing.
Remove
- Remove the old cost accounting system.
Stage 3:
that employees cooperated with the implementation of activity-based costing because they knew that Pension Insurance company X was forced to provide this transparency. Or, the external enforcement may have led to committed employees. Because the employees see the advantages of activity-based costing.
The usurious pension affair also might have played a role within one of the four processes of ‘the process of institutionalization’ by Burns and Scapens. During the implementation of activity-based costing, Pension Insurance company X has gone through all four processes. Before activity-based costing was implemented, the allocation of costs to the three legal entities was based on an estimation. Because of the usurious pension affair, Pension Insurance company X changed the way of allocating costs. They decided to implement activity-based costing. The rules about the new cost system were established and were translated into actions. Because of the external pressure, the employees might have accepted the rules about the new cost system more easily than in a situation without external pressure. Thus, the actions may be performed faster into practice. The repeating actions became routines. Finally, the rules and routines were transformed into institutions.
Besides the allocation of costs to the legal entities, activity-based costing is used within the Embedded Value. In this discounted cash flow method, the costs are based on activity-based costing. Activity-based costing is also used within scenario analysis. The impact of strategic decisions will appear with the use of these analysis. The manager business control explained that in the future, Pension Insurance company X want to spend more time on these scenario analyses. In 2010, activity-based costing will also be used for the classification of insurance products. The insurance products can be divided into: profitable products, less profitable products and non-profitable products. Company X does not dismiss the non-profitable products. Instead, they could change the cost structure of these products to decrease their losses.
Limitations and future research
The conclusions are based on the implementation process of Pension Insurance company X. This is a limitation of this research because the research was only based on one case. It would be interesting to investigate the implementation process of activity-based costing within more cases with the use of the ‘Implementation framework of Pension Insurance company X.’
REFERENCES
Articles
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Ariyachandra, T.R., & Frolick, M.N. (2008). Critical success factors in business performance management – Striving for success, Information Systems Management, 2008, volume 25, issue 2, pp. 113-120
Banker, R.D., Potter, G., & Schroeder, R.G. (1994). An empirical analysis of manufacturing overhead cost drivers, Journal of Accounting and Economics, 1995, volume 19, pp. 115-137
Barley, S.R., & Tolbert, P.S. (1997). Institutionalization and structuration: Studying the links between action and institution, Organizational Studies, 1997, volume 18, issue 1, pp. 93-117
Bharara, A., & Lee, C.Y. (1996). Implementation of an activity-based costing system in a small manufacturing company, International Journal of Production Research, 1996, volume 34, issue 4, pp. 1109-1130
Burns, J., & Scapens, R.W. (2000). Conceptualizing management accounting change: an institutional framework, Management Accounting Research, 2000, volume 11, pp. 3-25
Cooper, R., Kaplan, R.S., Maisel, L.S., Morrissey, E., & Oehm, R.M. (1992). Implementing activity-based cost management: Moving from analysis to action, Montvale, N.J.: Institute of management accountants
Fortin, A., Haffaf, H., & Viger, C. (2007). The measurement of success of activity-based costing and its determinants: A study within Canadian federal government organizations, Accounting Perspectives, 2007, volume 6, issue 3, pp. 231-262
Kasurinen, T. (2002). Exploring management accounting change: the case of balanced scorecard implementation, Management Accounting Research, 2002, volume 13, issue 3, pp. 323-343
Lillis, A., & Mundy, J. (2005). Cross-sectional field studies in management accounting research- Closing the gaps between surveys and case studies, Journal of Management Accounting Research, 2005, volume 17, pp. 119-141
Lindahl, F.W. (1997). Activity-based costing implementation and adaptation, Human Resource Planning, 1997, volume 20, issue 2, pp. 62-66
Malmi, T. (1997). Towards explaining activity-based costing failure: accounting and control in a decentralized organization, Management Accounting Research, 1997, volume 8, issue 4, pp. 459-480
Ness, J.A., & Cucuzza, T.G. (1995). Tapping the full potential of ABC, Harvard Business Review, 1995, volume 73, issue 4, pp. 130-138
Reger, R.K., Mullane, J.V., Gustafson, L.T., & DeMarie, S.M. (1994). Creating earthquakes to change organizational mindsets, Academy of Management Executive, 1994, volume 8, issue 4, pp. 31-41
Scapens, R.W. (2006). Understanding management accounting practices: A personal journey, British Accounting Review, 2006, volume 38, issue 1, pp. 1-30
Seal, W., Garrison, R.H., & Noreen, E.W. (2006). Management accounting. London: McGraw Hill
Shields, M.D. (1995). An empirical analysis of firms’ implementation experiences with activity-based costing, Management Accounting Research, 1995, volume 7, pp. 148-166
Whitfield, B., (2008). A new valuation method, Finweek, 2008, pp. 26-27
Yahya-Zadeh, M. (1998). Product-Mix decisions under activity-based costing with resource constraints and non-proportional activity costs, Journal of Applied Business Research, 1998, volume 14, issue 4, pp. 39-45
Newspapers
Verdegaal, E. (2008, March 31). Woekerpensioen, NRCnext
Wierstra, R., & Berg, M. van den (2008, March 21). Kamer eist onderzoek naar woekerpensioen, De Telegraaf
Newsbulletin
Wijk, R. van (2008). Activity-based costing bij organisatie X, XXX, 2008, volume X, p. X
Research report
Autoriteit Financiële Markten (2004, April). Zicht op beleggingsinstellingen; generieke rapportage van het onderzoek naar beleggingsinstellingen, Amsterdam, pp. 1-31
Autoriteit Financiële Markten (2006, June). Generieke rapportage; rapport beleggingsverzekeringen, Amsterdam, pp. 1-33
APPENDIX
Appendix I: Interview questions Mr. Vinke
Functie Dhr Vinke: oprichter Het Zuiderlicht, Directeur, Managementadviseur
1. In welk jaar is Het Zuiderlicht opgericht? 2. Hoeveel werknemers heeft deze organisatie?
3. Bij wat voor soort problemen wordt Het Zuiderlicht ingeschakeld?
4. Op welk moment wordt uw adviesbureau (over het algemeen) ingeschakeld bij de
implementatie van activity-based costing? Of bij de implementatie van processen? Nadat de beslissing tot implementatie is genomen?
Of wordt uw adviesbureau betrokken bij de beslissing om activity-based costing/processen wel/niet te implementeren?
5. Wanneer was dit bij door pensioenorganisatie X?
6. Hoe verloopt (in het algemeen) een implementatieproces nadat een idee is goedgekeurd tot
het moment waarop er werkelijke begonnen kan worden aan de implementatie? (Stage 1 and 2)
Dieper ingaan op:
Stage 1 Team
7. Wordt er over het algemeen een (project)team opgesteld binnen een organisatie die
activity-based costing wil implementeren?
Zo ja:
a. Zijn de leden van het team normaal gesproken afkomstig uit verschillende
afdelingen?
b. Komt het voor dat er binnen een team een persoon wordt aangesteld die als
‘hoofdverantwoordelijke’ wordt gezien? (Champion)
c. Wordt er door het team een rapport met actiepunten opgesteld (External validity) 8. Is er een team opgezet voor de implementatie van activity-based costing bij
pensioenorganisatie X?
Zo ja:
a. Bent u lid van dit team?
b. Welke werkzaamheden voert dit team uit binnen Pensioenorganisatie X?
c. Is er ook een rapport met actiepunten opgesteld door het team? (External validity)
Bekendmaking
9. Hoe wordt, in het algemeen, binnen een organisatie bekend gemaakt aan werknemers dat er
een nieuw system (zoals activity-based costing) wordt geïmplementeerd?
a. Zal men hier anders mee omgaan indien men ervan uit gaat dat de werking van het
nieuwe systeem nog niet bekend is bij de meeste werknemers?
(Doordat bijvoorbeeld in dit geval, de bekendmaking in kleinere groepjes of per afdeling wordt gehouden)
10. Hoe werd er bekend gemaakt aan de werknemers dat activity-based costing zal worden
geïmplementeerd binnen Pensioenorganisatie X? a. Wat vond u van deze manier?
b. Hebt u bij deze overdracht een rol gespeeld?
Weerstand
11. Heeft u weleens meegemaakt dat er werknemers waren die niet blij waren (weerstand
boden) met de implementatie van activity-based costing?
Zo ja,
a. Wat was toen de reden van weerstand?
(Weerstand door verandering in macht structuur? Teveel werk ivm de implementatie? Weerstand omdat het systeem nieuw was?)
b. Hoe hebben ze deze werknemers kunnen overtuigen
Cursussen?
Door de verandering te koppelen aan de mental models van organizational identity van de werknemers. Dus koppelen aan de normen en waarden die (volgens de werknemer) het bedrijf heeft.
Cursussen
12. Worden er, over het algemeen, cursussen gegeven wanneer een onderneming besluit
activity-based costing te implementeren?
Zo ja,
a. Verschillen deze cursussen vaak per functie?
b. Denkt u dat met behulp van cursussen, de werknemers de verandering beter kunnen
Stage 3
Werkelijke implementatie
13. Wanneer wordt er van start gegaan met de werkelijke implementatie van activity-based
costing?
a. Was dat na alle werknemers de cursus hadden afgerond?
b. Was op het moment van werkelijke implementatie, iedereen overtuigd van het
gebruik van activity-based costing? Dus was er geen weerstand meer van werknemers?
14. Wanneer was dit bij pensioenorganisatie X?
15. Hoe verloopt dit werkelijke implementatieproces? (Stage 3)
Dieper ingaan op
Bonussen16. Vindt u dat activity-based costing uiteindelijk moet worden gekoppeld aan jaarlijkse
bonussen of evaluaties van werknemers?
a. Denkt u dat het werknemers hierdoor motiveert?
17. Bent u van mening dat wanneer activity-based costing wordt gekoppeld aan bonussen, dit
moet gebeuren naast het ‘oude’ bonussysteem?
18. Heeft u weleens meegemaakt dat werknemers weerstand boden tegen het nieuwe systeem
omdat het invloed had op de jaarlijkse bonus?
19. Op welk moment moet het huidige cost accounting systeem worden verwijderd uit de
