You are recently employed as a graduate consultant in a management consultancy firm and are assigned to a team. One of your firm’s clients is currently evaluating its budgeting system. The CEO of your client had recently attended a seminar on Activity-Based Budgeting (ABB) in private companies and would like to know whether ABB is suitable to the company. Your manager has asked your team to prepare a report for the client.
Activity-Based Budgeting is a business tool or system that helps to analyze and evaluate the activities and tasks that contribute to the cost increment of a business. Activity-Based Budgeting or ABB not only adjust the budgets in the business, but it also helps to find efficient business activities in a business and focus more on these activities to create the budget (Kalhor et al., 2016). ABB is used mainly by big companies and organizations that have various subsidiaries, a huge customer base along with multiple business locations as well as a wide range of products and services. However, ABB has its own pros and cons which make it hard for companies and organizations to use the tool for evaluating cost-effective and efficient business activities. The following study will help AGL Energy Limited to implement ABB in their business operations. The study will describe the characteristics and features of ABB as well as the Pros and Cons of it (Langfield-Smith et al., 2017). The study will then describe the traditional budgeting system and compare ABB with it. Finally, the study will discuss the suitability of applying ABB in AGL Energy Limited using facts and logical reasoning so that it may help the company in becoming more efficient.
AGL Energy Limited is an Australian Company that provides Gas and Electricity to the residents and people of the country. The company was founded in 1837 in Sydney, New South Wales where the headquarters are situated and in 2006 it was renamed as AGL Energy from The Australian Gas Light Company (Agl, 2018). The company has over 3.6 million customers all over Australia with the number of employees being 3,470 as well being the largest investors of renewable energy assets. The company has a revenue of over AUD$ 12.584 Billion as well as a net income of over AUD$ 802 Million as of 2018. AGL Energy Limited focuses on Electricity and Natural Gas distribution and retailing as well as the generation of Wind Power and Hydroelectricity to be used as natural energy sources. From the annual reports, it has been found that there are multiple Power Stations of AGL Energy Limited that are powered by coal and gas as well as renewable energy which produces high energy for distribution and retailing (Agl.com.au, 2018). The company has various power stations in development as well as upstream gas projects. AGL Energy Limited is also focusing on providing the people with renewable energy sources and as such, they are heavily investing into it
Figure 1: AGL Energy Limited Logo
Activity-Based Budgeting is a business tool or system that helps to analyze and evaluate the activities and tasks that contribute to the cost increment of a business. Activity-Based Budgeting or ABB not only adjust the budgets in the business, but it also helps to find efficient business activities in a business and focus more on these activities to create the budget. ABB is used mainly by big companies and organizations that have various subsidiaries, a huge customer base along with multiple business locations as well as a wide range of products and services (Bruhn and Nafe, 2018). However, ABB has its own pros and cons which make it hard for companies and organizations to use the tool for evaluating cost-effective and efficient business activities. There are various advantages to ABB whereas some disadvantages of ABB when used by an organization for their budgeting purposes. These are:
- Improvement of Processes: ABB helps to allocate the budget of each product based on their prices instead of generalizing or over viewing them. This allows for the business to research and evaluatesall the direct and indirect budgets involved in the business processes (Rogulenko et al., 2016). As such, the company can reduce the unnecessary costs as well as pricing which helps to improve the business processes as well as create more opportunities for the business.
- Identification of Wastes: The activity basedbudgeting do not waste any monetary resources when it comes to allocating in the different activities and departments (Campanale, Cinquini and Tenucci, 2014). As the whole process is stressed upon the activities which will impact on the organization more directly, the whole process dismisses the needs of the other activities which are not a huge priority for the management group. Thus, the wastes in terms of resources get limited and the organization is benefitted. (Mohr, 2016).
- High Flexibility: ABB not only adjusts the budgets in the business, but it also helps to find efficient business activities in a business and focus more on these activities to create the budget. This is highly flexible for the company or the organization as ABB is an efficient and effective process which is helpful for the organization to identify the business processes that are efficient for the business in managing the budgets.(Cardos, 2014)
- Incompatibility with Accounting Standards: While ABB is highly flexible as well as effective for any business organization; the process is incompatible with the accounting standards. This is due to the fact that it is an external reporting function and as such it cannot help in internal reporting which can lead to poor decision-making choices within the business organization that affect the totality of the business (Malkin et al., 2017).
- High Cost for Implementation: ABB, while being highly flexible as well as effective for any business organization, the cost of implementation is very high for any business organization. This is due to the fact that helps to find efficient business activities in a business and focus more on these activities to create the budget which takes a high cost for Implementation (Parker, 2016). Hence, ABB is used mainly by big companies and organizations that have various subsidiaries, a huge customer base along with multiple business locations as well as a wide range of products and services.
- Issueof Resource Requirements: ABB helps to find efficient business activities in a business and focus more on these activities to create the budget which takes a huge amount of time, resources, and management. Hence, ABB is used mainly by big companies and organizations that have various subsidiaries, a huge customer base along with multiple business locations as well as a wide range of products and services (Prowle, 2016).
Characteristic Features of ABB
Traditional Budgeting is the way in which a particular organization creates the plan for spending monetary resources in different activities. Traditional budgeting is very dependent on the budgets of the previous year. (Dudin et al., 2015) The budget is done keeping the trends and tactics of the previous year in mind. After the initial process, changes are made to the budgets of the current year in respect of the changes in the business objectives and the business environments (Daniel, 2014). Traditional budgeting system is very effective in small scale companies as the monetary resources are finalized before the actual budgeting process. The whole process distributes the whole budget equally among the different activities. The monetary resources are also allotted to the different departments of the organization as per their need.
Features of Traditional Budgeting
- Works within the range of the actual monetary resource available
- Very effective in the activities of allotting capital in every department
- It is very easy to plan and execute
The traditional budgeting systems are very useful as they never go beyond the accessible capital of the organizations. Thus, it is very unlikely that the firms will experience any expenses over the budget (Pazarceviren, 2014). The traditional systems also implement strategies that are very useful for distributing the resources in all the departments of the organization. Therefore, none of the activities gets neglected in terms of funding. The traditional system is also very easy to plan as the primary process is based on the budgets of the previous year.
Advantages of Traditional Budgeting
- The betterment of the forecasting abilities of the organization
- The betterment of the strategyformulation process and implementation
- The budgeting is more cost efficient
- The investors get the actual worth of their investments (Novak, 2015)
- Management establishes its credibility
The above-mentioned advantages work in a domino effect as the positives outcomes of the activities will result in the alignment of the firm's performances with the expectations. (Kalhor et al., 2016) The organization will be more effective in achieving its objectives of obtaining a desired amount of profit with the help of traditional budgeting as well. There are also chances that the investors who are involved in introducing large amounts of capital in the business will get their money's worth as all of the resources will be used effectively in the business objectives. Therefore, all these positive outcomes will guarantee that the internal and external shareholders will believe in the management.
- The budgets are mainly focused on reducing the costs.
- The traditional System is not that much flexibilityin terms of accepting changes in policies or situation (Hossain, 2015).
- The budgets are made on unsupported guesswork.
- The budgets end to undervalue people
- These budgeting systems are not always accurate enough as per the desires of the organization.
Activity Based Budgeting and the Traditional Budgeting are a totally different method from one another. However, both the tools are used keeping the same organizational objective in mind. This objective is to allocate funds in the different departments within the organization or the different activities which are in need of a resource (Reka, et al., 2014). It also needs to be understood that both of these tools are very different in their respective operating processes and the tools also require different kinds of inputs.
The features of the traditional budgeting system include the limitations of conducting the budgeting activities within a given prediction process. Traditional budgeting can only predict the amounts which will be needed for any particular department or activity. On the other hand, the Activity Based Costing method is more directed towards proper analyzing methods and research methods. The Traditional Budgeting takes into account the previous year's budgets but activity Based Budget does not go near that input as the whole method is directed for the accurate and effective results. (Mahal&Hossain, 2015)
Advantages of ABB
The Traditional Budgeting Method takes into account the interests of every department and every activity which is in need of funding. Thus, it equally allows the resources in the respective fields. If not equal, the traditional budgeting process ensures that the activities or the departments will not fall short of funding (Kelly, 2014). But it is easier said than done as it is likely that the outcomes of the Traditional budgeting Method will not be as accurate as the whole process is base on assumptions by the costing or the financial department of a firm.
However, the activity based budgeting methods do not involve such interests of all the departments and activities. The activities which are a priority for the firm in terms of completion and impacts are the targeted ones in the ABB process. The whole activity uses effective tools for analyzing the needs of the departments. After that, the step of calculating the resources is executed by the financial departments. All the resources that can contribute in the process are assessed by the ABB tools and then come the part of allotting the resources in the departments (Adeleye, 2016).
Hence, it can be seen that the Activity Based Costing methods are very analytical, detailed, accurate and effective as compared to the traditional methods of budgeting. Moreover, the Activity Based Costing techniques are more reliable in terms of results and they can be followed by the organization with the added assurance that it will provide the different activities related in the firm like production, marketing, advertising with more opportunities to develop and get effective.
The Traditional Budgeting methods distribute the resources in every activity and department, but it creates the chances of wastage of resources as well. There are many departments in the firm which are in no rush of development or which do not need development. Traditional Budgeting allocates funds in those departments as well. Nevertheless, ABB methods are more in support o securing the interests of the activities which are primary target for the firms in terms of betterment or development (Cardos, 2014). Therefore, ABB methods save monetary resources and give the organizations a golden opportunity to spend the extra money on developing new features which will provide the firm with a competitive edge in the market.
Activity Based Budgeting (ABB) will prove to be highly suitable for AGL Energy Limited as it will contribute in bringing out the efficiencies in the energy and utilities activities for the organization. ABB is suitable and fetches the best results only for those organizations that are using Activity Based Costing (ABC). ABB is considered for those organizations for which the overhead costs contribute to a significant proportion of the total operating costs and will highly benefit AGL Energy Limited for this reason. The use of Time Quality Management in the AGL Energy Limited will also put thumbs up for the use of ABB as it will help the organization to identify the cost-effectiveness of the activities (Hoozée and Hansen, 2017). The application of ABB will provide AGL Energy Limited to gain the competitive advantage. As AGL Energy Limited has the potential to deliver high quality utility services to the customers at lower costs along with maintaining the profitability for the business. ABB will allow the organization to evaluate the every step till the product or the services reach the final market. This will ensure AGL Energy Limited to identify the required steps and eliminate the unnecessary steps ultimately helping the organization in saving the extra costs and help the business to move in the correct direction. ABB will allow the managers of AGL Energy Limited to have a start to end view of the business unlike the complex view provided by the traditional systems of accounting. ABB will also benefit AGL Energy Limited by making the process of strategic planning much easier. The application of ABB for AGL Energy Limited will provide the organization with numerous benefits contributing to the suitability of the approach for the enhancement of effectiveness of the practices followed in the organization. The benefits to AGL Energy Limited by the application of ABB are as follows:
- Improving ofrelationships: The concept of ABB will help in improving the relationship between AGL Energy Limited and its customers by eliminating the unnecessary activities in the process and providing the customers with best quality services at the cheapest costs (Trenovski and Nikolov, 2016). This will also indirectly enforce the employees of the company to serve the customers in better ways aiming to achieve customer satisfaction ultimately enhancing the relationships between both the entities.
- Elimination of Bottlenecks: ABB will prove to be suitable for AGL Energy Limited as it will prepare a deep research and analysis and eliminate the unnecessary costs of the business (Miller-Nobles, Mattison and Matsumura, 2016). The process will eliminate all forms of bottlenecks associated with the functioning of the business and the help the organization in carrying out its business in a smooth way.
- Evaluation of the cost drivers: The ABB approach will help the AGL Energy Limited by taking into consideration and evaluating each and every cost driver of the organization (
Disadvantages of ABB
Popesko and Socova, 2016). The cost drivers which are not relevant for the business will be eliminated while only the required ones will form a part of the organization.
- Competitive Edge to the business: ABB will provide a competitive edge to the AGL Energy Limited by eliminating all forms of unnecessary activities and contribute to reducing the costs which will help the AGL Energy Limited in serving its customers with best quality services at minimum costs. This will provide the AGL Energy Limited with a competitive edge over its competitors in the industry (Keel et al., 2017).
- Business as a Unit: ABB will help the management in viewing the business as a unit rather than a collection of departments. This will make the task of preparing the budget easy for the managers of AGL Energy Limited as they will have the liberty to plan a single budget catering tothe needs of the entire organization.
AGL Energy Limited is the largest energy company of Australia that provides electricity, gas, solar and similar services to the businesses and households can attain numerous benefits by the application of Activity Based Budgeting (ABB) approach for the organization. ABB has both advantages and disadvantages of using it, but focusing on the advantages, it will provide AGL Energy Limited with numerous benefits helping it to achieve a competitive edge against its competitors in the market. ABB proves to be very different from the traditional forms of budgeting where it examines and analyses the costs and provides the organization with the costs that are important for it and eliminate the additional costs helping the organization in reducing its total costs of providing the services to its customers. The application of ABB in the practices of AGL Energy Limited will provide it with numerous benefits which will include improvement of relationships with the customers, removing the unwanted costs of the business; it will also provide the AGL Energy Limited with a competitive edge with reduced costs and will also the management in making a single budget collectively for all the department of the organization making it function as a unit.
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