Project report on product costing using activity based cost system: pilot study of the splitcase pump division in Kirloskar brothers limited, Kirloskarvadi

Abstract

Kirloskar Brothers Limited (KBL) has pioneered the evolution of the House of Kirloskar for over hundred years, as a force to be counted on the industrial scene of India.In today's competitive environment, product profitability analysis is necessary to make certain strategic decisions like pricing tenders, determining discounts on sales and evaluating alternatives between make or buy. Such analysis requires accurate measurement of the production and marketing costs of various products manufactured in KBL. Preliminary evidence suggests that the present costing system fails to report accurate product costs. The main aim of this study is to evaluate the present costing system in KBL and find out whether the reported product costs are reliable and accurate. Furthermore the feasibility of introducing the an activity based cost System in KBL is explored. A pilot study for designing an activity based cost system is conducted. The scope of the study is limited to the Split Case Division of Kirloskarvadi Unit. The study of the existing cost system reveals that KBL is using the number of direct labour hours as the sole allocation base for charging indirect manufacturing and marketing costs to individual products. However the allocation base does not have a strong relationship with the consumption of resources. KBL manufactures a variety of products in various sizes and materials. The organisational efforts required to manufacture different types of pumps are different. The existing cost system does not take into account all of these special efforts. Due to the addition of CNC machines and the policy of freeze on direct labour at current levels, overhead absorption rates have been increasing during recent years as the same overhead are being allocated on a shrinking base of labour hours. To overcome the shortcomings in the existing cost system, a new costing system using the principles of Activity Based Cost System (ABC) is proposed. The procedure consists of aggregating activities, computing the cost of activities, selecting the activity drivers, and computing the cost rates for various activity drivers. A total 87 activities or aggregation of activities are grouped in thirteen different cost pools based on activity drivers used to trace the costs. Comparison of the costs computed under the existing cost system and activity based cost system reveals that the costs computed under latter system are lower. The explanation for the results is that the activity based cost system is sensitive to the diversity of volume, type of product, processes and design of product and immediately reflects the efforts required to manufacture the product. An activity based cost system provides more than just accurate product costs, It will reveal opportunities for process improvement and elimination of waste. Performance measurements that motivate employees towards accomplishment of strategic objective of the firm can be developed using an activity based cost system.