Activity-Based Management (ABM)
What is Activity-Based Management (ABM)
Business Dictionary defines Activity-Based Management (ABM) as an "approach to management that aims to maximize the value-adding activities while minimizing or eliminating non-value-adding activities." The overall objective of ABM is to improve the efficiencies and effectiveness of an organization in securing its markets. It draws on activity based-costing (ABC) as its major source of information and focuses on
- reducing costs,
- creating performance measures,
- improving cashflow and quality and,
- producing enhanced value products.
Activity-based management (ABM) is a procedure that originated in the 1980s for analyzing the processes of a business to identify strengths and weaknesses. Specifically, activity-based management seeks out areas where a business is losing money so that those activities can be eliminated or improved to increase profitability. ABM analyzes the costs of employees, equipment, facilities, distribution, overhead, and other factors in a business to determine and allocate activity costs.
Types of Activity-Based Management (ABM)
There are two main types of activity-based management:
- Operational activity-based management (doing things right) – this relates to making the organization more efficient by reducing the cost of the activities and eliminating those activities that do not add value.
- Strategic activity-based management (doing the right thing) – which essentially involves deciding which products to make, and which customers to sell to, based on the more accurate analysis of the product and customer profitability that activity-based costing allows.
Activity Based Management Objectives
Activity-based management has three primary objectives. The first is to identify and enhance value-added activities. The second is to identify and eliminate or reduce non-value-added activities. The third is to redesign the company’s operational procedures so as to improve efficiency, maximize value-added activities, and cut wasteful spending on non-value activities.
- Identify and enhance value-added activities
- Identify and reduce non-value-added activities
- Redesign processes to improve efficiency and profitability
Activity Based Management Implementation
Activity-based management builds off of an activity-based costing system. Once a company has developed and implemented an activity-based costing system, implementing activity-based management involves three steps:
- Classify activities as either value-added or non-value-added
- Rank value-added activities in terms of added customer-perceived value
- Enhance value-added activities and eliminate or reduce non-value activities
A company should only implement ABM if the benefits of doing so exceed the costs. Implementing ABC and ABM can be costly in terms of time and resources. Implementing ABM is recommended for companies facing intense price competition. It is also recommended more for companies with many complex products and processes as opposed to companies with simple products and processes.
What leads to a successful ABM program?
ABM systems are a very effective means for improving company performance on many fronts. An organization can realize the power of ABM when the right individuals access the right information in the best format for improving performance. Brad Anderson and Mick Twomey of Pendiant Consulting, Charles Davis an Ernst & Young Teaching Fellow, and Elizabeth Davis from Baylor University, Waco, Texas (Anderson et al, 2004), interviewed people from several organizations to learn how they had implemented and kept their ABM systems running. The following comments are a distillation of the lessons learned:
- Initiation -since human beings are creatures of habit it is important that the staff involved in any ABM implementation program is given good reasons to change. It has been recognized that successful performance management implementations make a clear connection with the operating side of businesses, and are more than simply a means of recording a score. They represent the real heart of the organization. They highlight how managers can meet their specific cost and productivity objectives, helping them and their departments to achieve their bonuses and goals.
- Project identification and scope - as ABM becomes part of an organization's operational culture, systems should be devised to identify appropriate projects for continual improvement purposes. It is recommended that smaller pilot projects should be attempted first to obtain quick and encouraging wins. These will also serve as a training and development platform.
- Team selection - full-time dedicated resources are recommended to ensure that work gets done as quickly, and as competently, as possible. As a means of ensuring that the ABM system is designed to meet operational objectives, it is wise to have operations personnel working as full-time members of the implementation team. By participating in the development of the system, operational employees will pick up essential knowledge that will assist in the future maintenance of the system. External consultants can also add
(a) invaluable experience,
(b) additional staff power, and
(c) enabling tools and techniques that could greatly reduce the implementation timeline and improve the quality of the initial model.
An essential point to note is that the chosen implementation team will ultimately be responsible for developing a tool that could change the way the organization views its total operations.
- Ongoing maintenance - excessive maintenance requirements have been known to destroy the effectiveness of ABM implementations which are by nature heavily data dependent. Some ABC data can be automatically retrieved, however much of the information needs to be entered manually. Successful ABM systems must maintain a balance between the value being generated by the system and the level of ongoing maintenance effort required.
- Communications - it is wise to establish a strong communication program, particularly during the first year after the ABM implementation. Management should regularly engage in reviewing and understanding the periodic results of the systems with operational managers. An agreed common language is recommended to minimize miscommunication.
In summary, the keys to the successful implementation of ABM systems are seen as being the development programs that are:
- Simple to maintain on an ongoing basis and which,
- Promote a cultural change concerning how management uses cost information to drive better decisions.
Importance of ABM
ABM focuses on accountability for activities rather than costs and emphasizes the maximization of system-wide performance instead of individual performance. ABM control recognizes that maximizing the efficiency of individual sub-units does not necessarily lead to maximum efficiency for the system as a whole. The functional-based management control assigns costs to organizational units and then holds the organizational unit manager responsible for controlling the assigned costs. Performance is measured by comparing actual outcomes with standards or budgets. The emphasis is on financial measures of performance; non-financial measures are usually ignored. The functional-based management traces costs to individuals who are responsible for incurring costs. The reward system is used to motivate managers to manage costs by increasing the operating efficiency of their organizational units. This approach assumes that maximizing the performance of the overall organization is achieved by maximizing the performance of individual organizational sub-units. In ABM, both financial and non-financial measures of performance are important. See the figure below that compares the characteristics of functional-based and activity-based management.
A risk with ABM is that some activities have an implicit value, not necessarily reflected in a financial value added to any product. For instance, a particularly pleasant workplace can help attract and retain the best staff, but may not be identified as adding value in operational ABM. A customer that represents a loss based on committed activities, but that opens up leads in a new market, may be identified as a low-value customer by a strategic ABM process. Managers should interpret these values and use ABM as a "common, yet neutral, ground … this provides the basis for negotiation". ABM can give middle managers an understanding of costs to other teams to help them make decisions that benefit the whole organization, not just their activities' bottom line.
The trouble with ABM is its underlying assumption that all of the benefits and costs of a cost object can be translated into monetary terms. For example, the outcome of an ABM analysis might lead management to the conclusion that the workplace should be downgraded to a lower-grade property in order to save money; in reality, fancier office space is useful for attracting recruits to the company. For the same reason, it can be difficult to apply ABM to strategic thinking. The problem in this area is that a new strategic direction may be quite expensive in the short-term, but has prospects for a long-term payoff that are difficult to quantify under an ABM analysis. For the two indicated reasons, the information generated by an ABM analysis cannot be used to drive all management decisions - it is simply information that can then be inserted into the general context of how an organization should be operated. Thus, it is one of several decision tools that management can use.
- Definition of Activity-Based Management (ABM)
- What Does Activity-Based Management (ABM) Mean?
- Types of Activity-Based Management (ABM)
- Objectives of Activity-Based Management (ABM)
- Strategic Implementing Activity-Based Management (ABM)
- The Key to the Successful Implementation of ABM
- Why is Activity-Based Management (ABM) Important?
- The Risk with Activity-Based Management (ABM)
- Activity-Based Management (ABM)