Activity Based Costing in Banking Sector: Advantages and Disadvantages

This article discusses the advantages and disadvantages of adopting Activity Based Costing (ABC) in the banking sector. It also highlights how ABC helps in identifying potential customers and controlling profitability of bank operations.

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Table of Contents
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Post 1
Providing service in the banking sector requires management of total quality, time,
quality, cost, customer satisfaction, market globalization, technology, availability of the
markets and capital. Apart from regulation costing is major factor for banks as it is required
for competing with the competitors. Costs for banking sector are not driven by the customer
volume rather it is driven by the number of processed transactions. Banks are shifting to
activity based costing for reflecting accurate service costs for tracing and allocating indirect
costs to particular product (Kaplan and Atkinson 2015). Various advantages of adopting ABC
in banking sectors are as follows –
 ABC approach helps is identifying potential customers that is which customer is
generating more profits and which is not. Initially the customers were used to be
charged at flat rate without taking into consideration the actual services availed.
However, owing to increase in competition it was necessary for the banks to identify
real costs. ABC approach helps in identifying the true cost based on the indirect cost
incurred for particular customer.
 Profitability of the bank operation is controlled through establishing the profit centre
and identifying the profit and costs centres separately. However, activities may vary
in different centres. ABC approach helps in allocating the indirect expenses to each
centre appropriately (Oseifuah 2014)
Disadvantages of adopting ABC in banking sectors are as follows –
 ABC approach does not consider competitor’s product prices and customer value.
However, while analysing the product’s market price these factors shall be taken into
consideration.

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 It is time consuming and involves high level of cost as banking service involves
numbers of indirect costs and cost drivers that includes transaction amortisation,
marketing, market research and new technologies. Further, it is not always practicable
to trace the costs and establishing cost driver for each cost (Eldenburg et al. 2016).
Post 2
Generally cost of any product under traditional costing through using the process
costing is more as compared to ABC approach. Before implementing the ABC system the
organisations were not aware regarding the hidden loss of the money for each of the products.
Through help of ABC hidden loss and the pricing decisions are analysed. Further, with ABC
the companies realized that hidden profit zone takes place while cost is compared as per ABC
with process costing. Hence, without any intention hidden benefit is gained from the products
through traditional costing. However, applying ABC the products can be re-priced and can
achieve competitive advantage (Waset.org 2018). If the traditional costing is compared with
ABC it can be identified that some of the products are overpriced whereas some are
underpriced and in some cases both the prices are almost same. Further, the pricing decisions
can be taken based on the hidden profits and losses. Further, the weaknesses involved in the
costing system of the company can be fixed through applying the ABC approach. Hence, it
can be stated that ABC is capable for monitoring hidden profits and losses involved in the
traditional costing approach (Waset.org 2018).

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Reference
Eldenburg, L.G., Wolcott, S.K., Chen, L.H. and Cook, G., 2016. Cost management:
Measuring, monitoring, and motivating performance. Wiley Global Education.
Kaplan, R.S. and Atkinson, A.A., 2015. Advanced management accounting. PHI Learning.
Oseifuah, E.K., 2014. Activity based costing (ABC) in the public sector: Benefits and
challenges. Problems and Perspectives in Management, 12(4), pp.581-588.
Waset.org. 2018. [online] Available at: https://waset.org/publications/11958/a-comparative-
analysis-of-activity-based-costing-and-traditional-costing [Accessed 16 Nov. 2018].