Question 9.OA.2: Activity-Based Costing in a Business School How much does it...
Activity-Based Costing in a Business School
How much does it ‘cost’ to teach an undergraduate student for one year? Is it more expensive to teach Ph.D. students, MBAs, or undergraduates? Most universities do not have good answers to these questions, despite complex and detailed accounting systems. Also, unlike manufacturing organizations, universities do not have products in the typical sense. Many interrelated costs and benefits result from the activities that a university undertakes. Activity-based costing is one way that can provide insights into the cost and benefits of the outputs of a university system. A case study at a large business school developed an ABC model of its accounting department. As in the manufacturing sector, the objective was to allocate overhead costs in a manner that captured how different cost objects consumed resources. The study determined that the business school, like most universities, had a number of features that made cost management more difficult:
• decentralized decision making with critical decisions taken at lower levels
• complex accounting and budget systems geared to compliance reporting
• a lack of clearly defined outcomes and products
• many interconnected activities (e.g., teaching, research, administration)
• the consumer and the producer of activities frequently the same
• interrelated costs and revenues in that certain activities only undertaken due to the receipt of specific funds tied to the activity
• the impact of capacity constraints on cost and quality of activities.
The ABC model focused on the accounting department of the business school. The first stage developed a set of cost objects and cost pools. The cost objects were the various programs, research outputs, service outputs, and unused capacity. The cost pools were the faculty resource costs and non-faculty resource costs. Faculty costs (compensation, travel and research allowances, etc.) were subdivided into four pools: teaching, research, service, and advising of doctoral students. Non faculty costs were placed into three pools: teaching support, research support, and general administration. In the second stage, costs of the business school were identified and allocated in the same manner. These costs included the career center, computer technology, media services, and the costs of administrative offices. Once the costs of the various cost pools were assigned to the cost objects, the study examined specific cost objects to determine if the ABC model provided insights not available from the existing approach to costing. The following points summarize the results of the study:
• Significant differences exist in the per-student cost of the various academic programs. For instance, the cost of a Ph.D. student per year is approximately 3.5 times that of a student in a combined undergraduate/masters program.
• Unused capacity represents a major cost. This unused capacity results from a number of factors ranging from under-subscribed classes and inefficient course scheduling.
• Space is a costly commodity at the business school, often comparable to the sum of all other costs.
• Programs and activities do not make uniform use of support services, but the cost of the latter tends to be spread uniformly across all areas based on head count.
• ABC offers one way to focus on the cost-benefit of activity spending, and a better way to determine the efficiency in delivering teaching, research and service outputs. What factors might contribute to the greater annual total cost per student in the Ph.D. program compared to the five-year combined undergraduate/masters program? Why would the cost of capacity tend to be overlooked in a university environment? Why would university faculty and staff be hesitant perhaps about efforts to cost their activities?
Factors that might contribute to the higher cost of Ph.D. students compared to those in a combined undergraduate/masters program are the small size of doctoral classes, the more senior rank of faculty who teach in the doctoral program, and special incentives and compensation for professors who teach in this program (extra salary, reduced teaching loads, etc.). Although not included in this study, extra costs also typically include the greater financial aid given to Ph.D. students. The cost of capacity tends to be overlooked in a university environment for a number of reasons. First, universities have no market mechanisms to highlight inefficiencies and wasteful use of capacity. Second, in most universities, space is a free good to the extent that the internal cost of this space does not reflect its full cost or comparable cost if this space were acquired in the rental market. Third, in some situations, the decision to allocate space to a specific activity is linked to other decisions, such as accommodating preferred class times and elective courses. University faculty and staff might be reluctant about efforts cost their activities, since many of them might be difficult to measure and capture quantitatively. For example, course or research projects that are reported to be high cost might be considered unnecessary or inappropriate when the university is dealing with cost constraints. Financial measures might not reflect the contribution of these items in other ways (reputation of the university, ability to attract high-quality professors and students) and might lead to decisions that are contrary to the university’s long-term mission. Finally, as in all organizations, individuals react to what is measured and might not like the focus placed on their activities. However, cost measurement might also motivate university members to better manage the costs of the resources that they consume.