Activity Based Costing (ABC) Case Study: Exxonmobil

STRATEGIC MANAGEMENT ACCOUNTING AND PERFORMANCE MANAGEMENT

This paper provides an evaluation of the setup of the activity-based accounting (ABC) to Exxon Mobil, a global oil company. The paper’s analysis is organized in the following manner:

  • The process of setting up an activity-based pricing system for Exxon Mobil – This section first provides an overview of the concept of activity-based costing and then focuses on the ways this system can be implemented in Exxon Mobil.
  • The stages involved in the design of ABC systems The second section of this paper outlines the steps that are involved in the setting up for an Activity-Based Costing System.
  • The selection of cost drivers A crucial element to consider when setting up one based on activity is the choice of cost drivers. The third section of this paper explores the subject.
  • Calculation and examples fourth part provides an example calculation of the costing based on activity for Exxon Mobil.
  • Limitations of the information derived obtained from ABC systems The fifth section of the paper discusses the drawbacks and challenges in the application of activity-based costing.
  • Conclusion The final section summarizes the arguments made in the paper and focuses on the main points that should be considered when concluding the paper.

A. SETTING UP AN ACTIVITY-BASED COSTING FOR EXXON MOBIL

Activity-based costing is used to improve business processes via behavioral, business, and accounting procedures, and “focuses on costs associated with activities, but also evaluates whether those activities add value, thus providing a means of understanding how to most effectively reduce costs” (Maiga and Jacobs 2003).

This paper focuses on particular areas that can aid ExxonMobil in creating an activity-based costing system. The possibility exists to create this system to allow ExxonMobil to help improve its performance, however, this requires two main aspects to be followed when pursuing this method:

  • Engagement from the top management In order to establish the ABC system will require a strong commitment from management at the top as there are likely to be challenges and concerns raised by various parties as the approach is implemented.
  • Transparency of measures Alongside commitment in establishing an ABC system requires that the organization be transparent in its operational and financial numbers to reap the maximum benefit from the implementation of the system.

B. STAGES INVOLVED IN DESIGNING ABC SYSTEMS

There are several crucial steps that organizations must follow when designing ABC systems for their organizations. The most important steps in the design of ABC structures areas follows (Allott 2004, 2004):

  • Define the scope and key activities that are performed This phase involves the formulation of key objectives and actions for the departments and the entire organization. The main challenge here is to ensure there aren’t too many tasks that could make the analysis inadequate given the details required.
  • Distribute direct staff time and determine the company’s needs for resources The managers within the companies then have to determine the resources needed for the essential tasks identified in the initial phase. This is the stage where you have to evaluate how employees used their time since it will be allocated within an ABC system.
  • Include other direct costs In addition to the expenses associated with the personnel and their work, other direct costs also have to be included in the course in the process of analysis as well as evaluation.
  • Allocate departmental and corporate overheads and determine the most important outputs The outputs from the tasks identified in the first stage should be identified. The outputs must be identifiable, although there are certain activities that don’t produce outputs that can be measured directly. This is how the overheads of corporate and departmental departments can be assigned.
  • Divided into value-adding and non-value-adding tasks and evaluate cost-input drivers and activity-level drivers. The fourth phase is to evaluate the value-adding and non-value-adding aspects and the elements that trigger the activity to take place, which includes both cost-input drivers and activity-level drivers. Activity-level drivers are correlated to the frequency of events, and the cost-input drivers are based on the costs of executing the tasks for the organization. Cost drivers are a crucial factor when designing ABC systems. The following section discusses the concept in more detail.
  • Calculate the unit cost After all measures and variables have been established, it’s possible to determine the unit cost of different output measures. This then drives the next step.
  • Utilize findings to determine opportunities for improvement When the process of establishing and setting up the ABC system, it’s important to be a clear definition of improvements opportunities that organizations will be focusing on. The basis for this will be the results of the analysis. These are significant in that they will influence the actions of employees and the company. So, these improvement opportunities must be initiatives that are feasible, and yet they could affect the efficiency of the company in a significant way if they are realized.

The above-described stages are the key steps at the top in the process of establishing and implementing an ABC method for businesses.

C. SELECTION OF COST DRIVERS

As discussed in the previous section about the phases of developing or implementing an ABC program, the selection of cost input drivers is essential to ensure the correct execution of an ABC system. This section focuses on the selection of cost drivers in more specific terms with in terms of the ABC system. Cost drivers play an essential function since the goal of identifying cost drivers is to assess how an organization is able to manage and control costs efficiently and make effective adjustments to the way these costs affect the company. The ultimate goal is to achieve lower expenses for the business as well as better financial and operational performance that could result in significant competitive advantages for companies over competitors in the industry.

There are certain fundamental principles that are essential in the selection of cost drivers of the ABC system. The choice of the cost driver is essential due to reasons that follow:

  • Enhance the performance of your organization The ABC system is able to be utilized with cost drivers to improve the performance of the company.
  • Enhancing the internal knowledge by having the correct cost drivers chosen as part of the ABC ABC system will increase the comprehension of employees of the value-adding tasks and allow them to concentrate on the areas that require the most attention.
  • Respond to external concerns, In the end, certain external stakeholders need to be considered when deciding on cost drivers. The next paragraphs explain why this is crucial.

Apart from an internal analysis of the most important cost drivers for an organization There are other elements that may influence the decision. One of the main factors that influence the selection of cost drivers is the pressure from outside on the cost drivers. With the growing environmental focus over the last few years, pressure to manage and control the environmental impact of industries like the oil industry has grown as investors are concerned about possible liabilities that could affect the company and the public, as well as the government, worried about the health effects caused by pollution and other materials (Lee 2005).).

The environmental costs associated with these are significant, as can be seen by the following instances (Lee 2005):

  • W. R. Grace was charged with 50 million dollars in 1998 for environmental remediation
  • Koch Petroleum Group spent significant sums over a few years on environmental impacts and refinery pollution around $7 million in 1998, approximately US$8 million for 1999, and approximately $2 million in 2000.
  • NCH Corporation charged earnings in the range of around 16 million dollars in 2000 to pay for environmental remediation
  • Unocal made provisions totaling 22 million dollars in 2002 to fund environmental remediation, as well as a reduction in earnings.
  • Overall for industries such as utilities, steel and metals, oil, paper, and chemicals, which deal with environmentally-sensitive areas, estimates place “environmental expenditures to be annual spending of over 1% of revenues”

In light of the increasing pressure from the outside to control the environmental impact of their operations, it has turned into an important cost driver that companies like Exxon Mobil need to include in their activity-based costing systems. The main reasons to include the cost-driver areas are as follows (Lee 2005):

  • Environmental issues are more and more prominently discussed by the general public as well as environmental groups across the world.
  • Environmental decision-making is therefore crucial and the information needed to control and manage this issue must be collected by pertinent companies
  • A proactive stance in managing environmental costs can be very beneficial for firms in these environmentally-sensitive areas particularly “in terms of risk reduction, prevention of liabilities, and the preservation of firm reputation”

D. CALCULATION AND EXAMPLE

When implementing an ABC system within ExxonMobil It is crucial, to begin with, a thorough review of what the main cost factors in Exxon Mobil could be in terms of the structure and implementation of the ABC system. Before proceeding further on this path the following assumptions must be made: (1) this is an example at a high level of a cost calculation for ExxonMobil since a thorough review has not been done to ensure the proper implementation of the proper analysis for an ABC process for the company, (2) only quick estimates are given because they have been formulated from an external view based on financial reports that are already in place, (3) no specific details have been disclosed by the organization.

This study is solely specifically on their Upstream (Oil gas exploration and production) division. An examination of their summaries annual report suggests that the following may be the major cost drivers Exxon Mobil would focus on in the ABC system:

The calculations above are based upon a range of assumptions that were made with the purpose of demonstrating how an ABC system can alter regional performance and enable the organization to make better decisions. The assumptions were formulated in this particular scenario, and it could also be reversed in that the higher costs result in those in the US and Canada or South America regions. The purpose of the calculations was to show the significance that costing based on activity could bring about an understanding of costs that are included in the financials of companies.

The method by which the cost is then divided and distributed to various cost divisions will have an effect on these divisions as well as the decisions taken. One of the most important aspects to be considered is the fact that the ABC system must identify the proper allocation of costs based on the amount of time that is spent by employees, as well as other factors the organization may consider crucial within its ABC system.

E. LIMITATIONS OF INFORMATION FROM ABC SYSTEMS

The drawbacks of information obtained from ABC systems can be viewed from two angles: (1) limitations in creating and implementing ABC systems as well as (2) limitations on the application of information that results from ABC systems that are implemented within an organization. This article will examine the two limitations.

E.1. The limitations in the establishment and implementation of the ABC systems

One of the biggest issues in the implementation of an activity-based costing method is the capability to collect the right information to ensure the appropriate utilization for the program. In the course of the application of the ABC system, a range of limitations have been brought out. The most frequent limitations mentioned are the following:

  • subjectivity in the distribution of times. One of the main concerns for users who use this ABC program was the appropriate allocation of time between the various activities employees were involved in and the subjectivity of assigning time has raised issues and questions regarding the security of the process (Journal of Accounting 2008). Recently there have been improvements to procedures that were developed to minimize the impact of subjectivity on the time allocation process by employees, especially with the methodology that is used in time-driven activity-based costing with the primary benefit of making the process simpler (Lambino 2007). However, this hasn’t been effectively communicated and there is an overall concern over this aspect for employees in the ABC system.
  • The complexity of retrieving data in information retrieval for the ABC System. Another issue that hindered the application in the ABC system was the perception that the process of retrieving information was too complicated as well as that the information needed for the completion of the process completing the process for ABC program was too complex (Max (2008)). Similar to the previous point, however, there have been additional innovations that have helped reduce the complexity of the retrieval process necessary to run the ABC system, but it has not been widely accepted although the pattern is shifting.

The two shortcomings mentioned above are the primary reason why the implementation of the ABC system has been restricted. In organizations that have implemented the ABC system has been in place the two shortcomings that were identified have impacted the way in which information is turned out through this ABC system. This will be discussed in the next section.

E.2. Limitations on the use of data resulting from ABC systems

For those organizations that have decided to adopt the ABC system, however, there are some limitations to the information that should be considered in the context of the information being used in the decision-making process of the organizations. The most significant limitations are following:

  • Costing is not a precise science. The results of the ABC system are estimates and are affected by the subjective nature of a few of the inputs described in the preceding section of this section. The utilization of cost averages and estimates reduces the clarity of the profitability and cost information and results in an important limitation to the utilization in ABC. ABC system (Max 2007, 2007).
  • The possibility of misuse of the information. This statement should not be considered to be intentional. However, if the data is not linked properly between processes and activities it is possible for inaccurate results, which can affect how the information is utilized (Crance, Castellano & Roehm 2001).

F. CONCLUSION

It is feasible to implement the ABC process for ExxonMobil. Numerous results and follow-up actions could be highlighted

  1. A high-level draft of the implementation could be implemented. The next step is to conduct an adequate review of the entire process should the company be eager to implement it.
  2. A detailed process is required to finish the ABC system implementation. ExxonMobil will have to commit to this process and allocate resources to help push forward the process of having the ABC system put into place.
  3. Transparency and commitment are crucial for the process – It is essential to obtain the approval and backing of the senior management as well as the most important management of the company.

By following these steps, it’s possible to progress to the next phase of having the ABC method developed to be used by ExxonMobil and implemented within the company.

REFERENCES

Allott, A. (2004)”Activity-based management’ New Straits Times 3 July 2004 [onlineaccessible 11 November 2004 on 11 November Global Factiva Database, http://factiva.com

Crance, J., Castellano, J., & Roehm, H. A. (2001)”SPC boosts ABC in a positive way’ Industrial Management, 43(6), [onlineaccess on November 11, 2001, from the Global Factiva Database, http://factiva.com

ExxonMobil (2007), “ExxonMobil: We’re taking on the biggest challenge of the world”, the 2007 Annual Summary Report

Journal of Accountancy (2008) Journal of Accounting (2008) Linking Strategy and Operations‘ (206 (44) [onlineAccessed 11 November 2008 via The Global Factiva Database, http://factiva.com

Lambino, C. (2008)”Time-Driven Activity-Based Costing Lambino, C. (2008), ‘Time-Driven Activity-Based Costing Government Finance Review, 23(4), [onlineAccessed on November 9 from the World Factiva Database, http://factiva.com

Lee, T. (2005)”Environmental issues management accounting and environmental issues: IFAC Exposure Draft’ Petroleum Accounting & Financial Management Journal, 24(1) [onlineaccessible on November 10, 2005, from the Global Factiva Database, http://factiva.com

Maiga, A. S., & Jacobs, F. A. (2003) Balanced scorecard costing based on activity and company performance: A empirical review’ Journal of Managerial Issues, 15(3), [onlineaccessible on November 10, 2003 from the Factiva Database, Global Factiva Database, http://factiva.com

Max, M. (2008)”ABC The Banking Industry: Trends from a Practical perspective” Journal of Bank Cost & Management Accounting, 21(1), [onlineaccessible on November 10, 2008 from the The Global Factiva Database. http://factiva.com

Max, M. (2007)”Leveraging Process Documentation to support Time-Driven Activity-Based Costing’ Journal of Bank Cost & Management Accounting, 20(3) [onlineAccessed 11 November, 2007 from the The Global Factiva Database, http://factiva.com

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