Activity-Based Costing

Activity Based Costing,Activity Based Costing,ProfitabilityProfitability

& Credit Granting& Credit Granting

Presentation ContentsPresentation Contents

ABC Definition, Model & ProcessABC Definition, Model & Process

Deliverables & Objectives of ABCDeliverables & Objectives of ABC

Product & Client Profile ProfitabilityProduct & Client Profile Profitability

Profitability Based Credit GrantingProfitability Based Credit Granting

Practical Application of InfoPractical Application of Info

Activity Based Costing

What is ABC?What is ABC?

ABC is a scientific method of ABC is a scientific method of

accurately allocatingaccurately allocating costs to costs to

cost objects (products / client cost objects (products / client

profiles / branches)profiles / branches) It aims to avoid the It aims to avoid the arbitrary arbitrary

allocationallocation of overheads to cost of overheads to cost

objectsobjects

The ABC ModelThe ABC Model

General Ledger costs represent General Ledger costs represent resourcesresources (people / property / (people / property / services / machines)services / machines)

Resources are used to perform Resources are used to perform activitiesactivities (applications / approvals / (applications / approvals / payouts / receipts / credit control)payouts / receipts / credit control)

Activities are performed to service or Activities are performed to service or deliver or provide deliver or provide cost objectscost objects (products / client profiles / branches)(products / client profiles / branches)

The ABCThe ABC Process Process

General Ledger

Department / Branch Costs

Resources

Activities

Cost Objects

100% ofR150m

100% ofR150m

100% ofR150m

100% ofR150m

Volume Drivers

Deliverables & ObjectivesDeliverables & Objectives Fixed and variable costing for Fixed and variable costing for

products, client profiles and branchesproducts, client profiles and branches Unit costs per activityUnit costs per activity Profitability of each product, client Profitability of each product, client

profile and branchprofile and branch Drill-down capability e.g. profitability Drill-down capability e.g. profitability

of 12 month bronze clients in Durbanof 12 month bronze clients in Durban Monthly automated electronic modelMonthly automated electronic model Promote the profitable, review the Promote the profitable, review the

unprofitableunprofitable

ABC Project Key ComponentsABC Project Key Components Data Warehouse: quality data in = Data Warehouse: quality data in =

quality data outquality data out Metify Software: ability to drill down Metify Software: ability to drill down

into detail => impossible in a into detail => impossible in a spreadsheetspreadsheet

Consultants: knowledge of software, Consultants: knowledge of software, guidance of process, dedicated timeguidance of process, dedicated time

GL & Process Knowledge: must GL & Process Knowledge: must understand what drives the costsunderstand what drives the costs

O&M Expert: accurate work O&M Expert: accurate work measurement of branch activitiesmeasurement of branch activities

Profitabilityof Products

Products: Average LoanProducts: Average LoanAverage Loan

-

500

1,000

1,500

2,000

2,500

3,000

3,500

4,000

1 MONTH NEW 4 MONTH NEW 1 MONTH REAPP 4 MONTH REAPP 6 MONTH REAPP 12 MONTH REAPP

Products: Average RevenueProducts: Average RevenueAverage Revenue

-

200

400

600

800

1,000

1,200

1,400

1,600

1,800


Products: Average CostProducts: Average CostAverage Cost

-

50

100

150

200

250

300

350

400

450


Products: Ave ContributionProducts: Ave ContributionAverage Contribution

-400

-200

-

200

400

600

800

1,000

1,200

1,400

1,600


Products: Min Loan SizeProducts: Min Loan SizeMinumum Loan to Contribute

-

100

200

300

400

500

600

700

800

900

1,000


Profitability of Client Profiles

Client Profiles: Bad RatesClient Profiles: Bad RatesBad Debt : Income Ratio

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

30.0%

35.0%

40.0%

Diamond Platinum Gold Silver Bronze Steel Tin Ore Purple -Rehab.

NewCustomer

Client Profiles: CIRClient Profiles: CIRCost : Income Ratio

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

60.0%

70.0%

80.0%

90.0%


NewCustomer

Client Profiles: ROEClient Profiles: ROEROE

-20.0%

0.0%

20.0%

40.0%

60.0%

80.0%

100.0%

120.0%

140.0%

160.0%


NewCustomer

Client Profiles: Ave RevenueClient Profiles: Ave RevenueAverage Revenue

-

100

200

300

400

500

600

700

800


New Customer

Client Profiles: Ave CostClient Profiles: Ave CostAverage Cost

-

50

100

150

200

250

300

350

400


New Customer

Client Profiles: Ave ContributionClient Profiles: Ave ContributionAverage Contribution

-

100

200

300

400

500

600


New Customer

Profitability & Credit Granting

Profitability & RiskProfitability & Risk Traditionally credit granting decisions are Traditionally credit granting decisions are

based on risk oddsbased on risk odds

Risk odds are a measure of bad debt onlyRisk odds are a measure of bad debt only

Profitability is a measure of revenue, costs Profitability is a measure of revenue, costs

and bad debtand bad debt

Minimising Bad Debt does not necessarily Minimising Bad Debt does not necessarily

maximise profitsmaximise profits

There is an optimal level of bad debt at There is an optimal level of bad debt at

which profits are maximisedwhich profits are maximised

Profitability GraphProfitability GraphRevenue, Costs & Profitability

-1,000

-

1,000

2,000

3,000

4,000

5,000

Volumes

R'm

Revenue

Costs

Bad Debt

Profit

Profitability Matrix for Products &

Behavioural Client Profiles

Product / Profile Matrix:Product / Profile Matrix:Bad Debt to IncomeBad Debt to Income

1 M REAPP 4 M REAPP 6 M REAPP 12 M REAPP

Diamond 0.1% 3.5% 2.7% 3.6%

Platinum 0.8% 3.6% 2.3% 2.7%

Gold 1.1% 4.0% 2.6% 1.6%

Silver 2.4% 6.3% 4.4% 2.7%

Bronze 6.9% 11.3% 4.5% 6.7%

Steel 4.7% 11.1% 6.9% 21.8%

Tin 6.6% 17.4% 31.8% 35.6%

Ore 11.5% 32.5% 104.4% 108.4%

Purple - Rehab. 1.6% 37.2% 0.4% 0.0%

Product / Profile Matrix:Product / Profile Matrix:Cost to Income RatioCost to Income Ratio


Diamond 274.1% 67.4% 26.8% 14.6%

Platinum 300.8% 76.6% 28.8% 15.5%

Gold 275.4% 51.1% 20.7% 14.4%

Silver 280.9% 51.1% 20.9% 16.6%

Bronze 272.8% 45.5% 22.8% 28.9%

Steel 249.2% 41.5% 27.0% 27.9%

Tin 242.0% 45.4% 30.8% 28.8%

Ore 274.5% 54.3% 53.4% 67.6%

Purple - Rehab. 426.0% 81.8% 35.1% 13.1%

Product / Profile Matrix:Product / Profile Matrix:Return on EquityReturn on Equity


Diamond -846.8% 54.1% 117.6% 88.1%

Platinum -942.8% 36.7% 116.8% 81.4%

Gold -835.8% 107.4% 168.1% 79.0%

Silver -873.5% 105.3% 171.3% 72.5%

Bronze -909.2% 122.4% 134.6% 30.5%

Steel -834.9% 153.5% 104.8% 51.8%

Tin -877.6% 119.4% 96.9% 41.0%

Ore -1051.4% 43.9% -182.1% -102.1%

Purple - Rehab. -1217.5% -52.7% 351.6% 0.0%

Product / Profile MatrixProduct / Profile MatrixAverage Profit before taxAverage Profit before tax

1 M

REAPP 4 M

REAPP 6 M REAPP 12 M REAPP

Diamond - 134 82 628 1,675

Platinum - 142 51 618 1,525

Gold - 128 180 907 1,513

Silver - 137 193 965 1,388

Bronze - 144 247 818 584

Steel - 129 310 640 1,206

Tin - 140 232 785 902

Ore - 155 76 - 1,578 - 2,943

Purple - Rehab. - 182 - 89 - 2,676 -

Profitability Matrix for Application

Joint Odds

Application Joint OddsApplication Joint OddsScore 0-5 6-9 10-15 16-25 26-34 35-40 41+

low-559 10 30 50 70 90 110 130

560-579 11 31 51 71 91 111 131

580-599 12 32 52 72 92 112 132

600-619 13 33 53 73 93 113 133

620-639 14 34 54 74 94 114 134

640-659 15 35 55 75 95 115 135

660-679 16 36 56 76 96 116 136

680-699 17 37 57 77 97 117 137

700-719 18 38 58 78 98 118 138

720-739 19 39 59 79 99 119 139

740-759 20 40 60 80 100 120 140

760-779 21 41 61 81 101 121 141

780+ 22 42 62 82 102 122 142

1 23 43 63 83 103 123 143

2 24 44 64 84 104 124 144

3 25 45 65 85 105 125 145

0 26 46 66 86 106 126 146

New Account FTL’s : Ave Contrib.New Account FTL’s : Ave Contrib.

Score 0-5 6-9 10-15 16-25 26-34 35-40 41+

low-559 286 - 51 92 142 150 252 291

560-579 143 - 425 110 88 208 262 259

580-599 - 414 211 135 175 230 289 355

600-619 61 - 38 77 164 243 333 357

620-639 77 10 108 149 221 292 357

640-659 - 140 - 16 88 139 213 296 336

660-679 - 111 - 172 85 133 209 323 320

680-699 - 87 8 13 105 182 262 310

700-719 68 29 48 133 226 341 384

720-739 27 54 76 155 217 332 422

740-759 - 1 81 103 214 256 371 410

760-779 5 71 176 215 244 391 443

780+ 457 184 164 263 309 417 434

1 18 - 260 - 280 - 306 - 385 - 554 - 339

2 - 1,202 - 118 - 422 - 336 - 235 - 386 - 255

3 - 147 - 1,081 - 349 - 251 - 148 - 20 90

0 40 - 16 48 92 125 152 220

New Account Re-apps: Ave Contrib.New Account Re-apps: Ave Contrib. Score 0-5 6-9 10-15 16-25 26-34 35-40 41+

low-559 - - - 22 67 103 31 178

560-579 - 188 9 69 121 113 349

580-599 - 1,622 - 5 63 154 199 300 423

600-619 - 340 - 120 145 162 242 364 393

620-639 - 73 91 117 151 219 337 369

640-659 26 60 110 140 251 367 374

660-679 20 128 95 200 260 384 372

680-699 124 8 24 145 232 346 382

700-719 - 110 - 159 78 135 261 403 458

720-739 39 93 97 203 311 391 508

740-759 135 45 176 251 323 403 438

760-779 73 - 8 165 252 325 439 446

780+ 134 219 194 281 324 446 475

1 2 - 2,846 - 2,859 - 1,542 - 3,390 - 5,148 417

2 499 - 1,842 - 980 - 1,147 - 1,048 - 1,119 - 12,530

3 - 88 274 - 695 - 1,171 - 1,104 - 947 7

- - 41 16 81 149 207 287 317

Summary & Conclusions

Practical ApplicationsPractical Applications Empirical data for decision makingEmpirical data for decision making

Understanding Profit, CIR, ROE per product Understanding Profit, CIR, ROE per product

per profileper profile

Which are the profitable products to promoteWhich are the profitable products to promote

Which are the unprofitable products to re-Which are the unprofitable products to re-

price or discontinueprice or discontinue

Which are your profitable client profiles to Which are your profitable client profiles to

targettarget

Practical ApplicationsPractical Applications Which are your unprofitable client profiles – Which are your unprofitable client profiles –

restrict creditrestrict credit

What are the minimum loan sizes per What are the minimum loan sizes per

product for profitabilityproduct for profitability

Understanding what approval / bad rates are Understanding what approval / bad rates are

optimum per product to maximise profitsoptimum per product to maximise profits

Promoting a product / client profile mix that Promoting a product / client profile mix that

maximises profitsmaximises profits

Summary & Conclusions

Practical ApplicationsPractical Applications Empirical data for decision makingEmpirical data for decision making

Understanding Profit, CIR, ROE per product Understanding Profit, CIR, ROE per product

per profileper profile

Which are the profitable products to promoteWhich are the profitable products to promote

Which are the unprofitable products to re-Which are the unprofitable products to re-

price or discontinueprice or discontinue

Which are your profitable client profiles to Which are your profitable client profiles to

targettarget

Practical ApplicationsPractical Applications Which are your unprofitable client profiles – Which are your unprofitable client profiles –

restrict creditrestrict credit

What are the minimum loan sizes per What are the minimum loan sizes per

product for profitabilityproduct for profitability

Understanding what approval / bad rates are Understanding what approval / bad rates are

optimum per product to maximise profitsoptimum per product to maximise profits

Promoting a product / client profile mix that Promoting a product / client profile mix that

maximises profitsmaximises profits

CI Decisions MadeCI Decisions Made To discontinue lending the 12 month product to To discontinue lending the 12 month product to

Bronze profile clientsBronze profile clients

To discontinue the 1 month loan productTo discontinue the 1 month loan product

To discontinue lending to rehabilitated clientsTo discontinue lending to rehabilitated clients

To migrate as many clients as possible from 4 To migrate as many clients as possible from 4

month loans to the 6 month loans within acceptable month loans to the 6 month loans within acceptable

risk levels (Diamond to Bronze)risk levels (Diamond to Bronze)

To introduce contribution break-even minimum loan To introduce contribution break-even minimum loan

sizes on all productssizes on all products

CI Decisions MadeCI Decisions Made

To reduce the approval rate on lending to new To reduce the approval rate on lending to new

account profiles, particularly FTL’s and / or introduce account profiles, particularly FTL’s and / or introduce

a FTL fee of +/- R75a FTL fee of +/- R75

To consider having two credit granting policies for To consider having two credit granting policies for

FTL’s & Re-apps using the joint odds matrix, if the FTL’s & Re-apps using the joint odds matrix, if the

FTL fee doesn’t align profitabilityFTL fee doesn’t align profitability

To migrate more clients to metal profiles by To migrate more clients to metal profiles by

changing the rules for allocating a profilechanging the rules for allocating a profile

CI Next StepsCI Next Steps Update the model with current dataUpdate the model with current data

Run a 6 & 12 month model as at 31/03Run a 6 & 12 month model as at 31/03

Review the Credit related decisions with PIC Review the Credit related decisions with PIC

SolutionsSolutions

Update the CI internal application scoreUpdate the CI internal application score

Run branch profitability workshops with the Run branch profitability workshops with the

RM’sRM’s

Investigate branch optimum staffing solutionsInvestigate branch optimum staffing solutions

Date post:	14-Jan-2015
Category:	Economy & Finance
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Activity-Based Costing

Economy & Finance