Activity Based Costing

The Challenge

This businesses profitability came under pressure due to the various external changes which had recently occurred in the automotive industry. These changes increased the Cost to Serve in this market and increased competition. These changes included:

• Changes in Australian diesel fuel standards in 2007 meant the introduction of more car manufacturers offering diesel fuelled models. The impact for the aftermarket automotive suppliers was significant as petrol & diesel SKU’s now had to be supplied.
• Manufacturers started to offer ‘extended’ and longer warranties which meant supply of parts was done by the manufacturer’s service yards throughout the warranty period. The market share for generic spare parts therefore started to decline.
• Many vehicles moved from electric to electronic operating systems. This increased the expertise and costs needed to service vehicles which led to the decline in the number of general service businesses in the market. The number of customers therefore declined.
• The emergence and subsequent dominance of DIY retailers such as ‘Super Cheap Auto’ and ‘Repco’ decreased the margins that after market parts businesses were previously getting from the DIY / End user market.

Activity Based Costing Solution

Bestrane was commissioned to develop an Activity Based Costing (ABC) model to get a better understanding of the changing environment which this business was operating in. The model was completed and analysed in conjunction with the knowledge of the external changes which were occurring in the market.

From the results of ABC model the following issues were identified in the business:

• The ‘Cost to Serve’ in various market segments was too high for the new market conditions. eg. The business had significant customer service costs due to spending a lot of time answering queries and placing orders for small service centres and end users.
• The business was carrying far too much inventory which entailed a number of unnecessary costs.
• Lower prices were not being offset by a lower Cost to Serve in the retail DIY sector. eg: Each Repco & Supercheap store would order separately multiple times a week.
• High amount of returns due to customer service errors and end user lack of product knowledge.

To tackle these issues the following strategies were implemented:

An Electronic Ordering Interface (EOI) was setup to automate orders and reduce Customer Service errors. This was an effective strategy that allowed the company to reduce the size of the Customer Service team.

• Merchandising and marketing systems were introduced to service shops to promote “Like for Like” substituting of branded parts for generic after market parts. This also increased education and presence of the aftermarket products.
• The Activity Based Costing results were used to reduce inventory and increase the price of the slow moving specialised products.
• Large DIY retail customers were put on EOI and offered incentives to consolidate orders to a central DC
• Marketing tools such as the Internet were used to increase the awareness and education of the products.

The Benefits of ABC

After the successful implementation of the strategies developed by Bestrane the business was able to:

• Increase awareness and education about their products
• Maintain market share in a declining market
• Significantly reduce their ‘Cost to Serve’ and their overall Cost Structure
• Reduce the inventory levels within the business and free up cash flow
• Increase profitability in the DIY retail market

Over the course of a year this business increased their underlying EBIT by 2% points. The business was subsequently sold 18 months after the Activity Based Costing project and the owner received an extra $11m in value thanks to the 2% increase in EBIT bought by Activity Based Costing and Bestrane.

This project was performed by Bestrane consultants. For more information on Activity Based Costing or Bestrane Consulting Services please contact us or visit the Bestrane website.

Regester for this blog and get access to all ABC resources!