Activity Based Costing for Construction Companies

Yong-Woo Kim is Associate Professor of Construction Management in the Department of Construction Management at the University of Washington, Seattle, WA, USA. He teaches undergraduate and graduate courses in construction accounting, project delivery systems, lean construction and project cost analysis. His primary research interests are lean project delivery systems, sustainable construction and project cost management.

Preface ix

1 Introduction 1

1.1 What comprises costs in a construction company? 2

1.1.1 Construction costs (project costs) 3

1.1.2 Overhead costs in a construction company 3

1.1.3 The cost classification in use and the duality of overhead costs 5

1.2 Overhead costs in new business environments 6

1.3 Role of overhead cost management 10

1.3.1 Overhead costing system should provide accurate costing on cost objects 10

1.3.2 Overhead costing system should contribute to reducing total costs without sacrificing value 11

1.4 Structure of this book 11

References 12

2 What Is Activity-Based Costing? 15

2.1 Traditional accounting method: resource-based costing with volume-based allocation 16

2.1.1 Resource-based costing 16

2.1.2 Overhead costs allocation 17

2.2 What are the problems with the current method? 18

2.2.1 Is the current method contributing to reducing total costs? 19

2.2.2 Does the current method provide accurate pricing? 19

2.3 What is activity-based costing? 20

2.3.1 Definition 20

2.3.2 Characteristics of ABC 21

2.3.3 Objectives of ABC system 25

2.4 Implementing activity-based costing 26

2.4.1 Develop an activity-based costing charter 26

2.4.2 Define cost objects 27

2.4.3 Identify activities 28

2.4.4 Assign resource costs to activities 29

2.4.5 Assign activity costs to cost objects 32

2.5 Chapter summary 35

References 36

3 Managing Overhead Costs in Construction Projects 39

3.1 Project overhead costs as profit points 40

3.2 Implementing ABC to manage project overhead costs 42

3.3 Case study: xx Commercial Complex 42

3.3.1 Developing an activity-based costing charter 43

3.3.2 Workshop 45

3.3.3 Defining cost objects 46

3.3.4 Identifying activities 47

3.3.5 Assigning resource costs to activities 48

3.3.6 Assigning activity costs to cost objects 53

3.4 Using ABC data for managerial purposes 58

3.4.1 Evaluating management areas with activity analysis 64

3.4.2 Evaluating subcontractors 68

3.5 Chapter summary 70

References 70

4 Managing Your General Overhead Costs 73

4.1 General overhead costs 74

4.2 Managing general overhead costs 75

4.2.1 Accurate general overhead allocation 75

4.2.2 Providing a process view for process improvements 79

4.3 Does current practice for managing general overhead costs work? 80

4.3.1 Resource-based costing 80

4.3.2 Volume-based assignment 80

4.4 How can ABC be implemented in managing general overhead costs? 82

4.4.1 Case study: xx Construction (general contractor) 82

4.5 How can ABC data be used in managing general overhead costs? 92

4.5.1 Cost driver analysis 93

4.5.2 Profitability analysis for each project 93

4.5.3 Profitability analysis for each market sector 97

4.5.4 Profitability analysis for each customer 104

4.6 Chapter summary 105

References 105

5 Managing Overhead Costs in a Fabrication Shop 107

5.1 Rebar supply system 108

5.2 Case study: PQR Construction Inc. 111

5.2.1 The rebar fabrication shop’s cost structure 111

5.2.2 Allocation of rebar fabrication shop’s costs to projects 113

5.3 Analysis using traditional rebar costs allocation 113

5.3.1 Identify cost objects and direct costs 114

5.3.2 Identify the overhead costs to be allocated and calculate the allocation base 114

5.3.3 Calculate the overhead costs allocated to each project 116

5.4 Analysis using activity-based costing 117

5.4.1 Determining system objectives and defining cost objects 118

5.4.2 Identifying resources and activities 119

5.4.3 Assigning resource costs to activities 120

5.4.4 Determining a cost driver for each activity 122

5.4.5 Calculating a unit rate of activity costs (cost driver rate) and allocating activity costs to cost objects 124

5.5 How can ABC data be used for managerial purposes? 125

5.5.1 Accurate cost information through overhead cost allocation 125

5.5.2 Cost information on processes 127

5.5.3 Cost driver analysis 129

5.5.4 Ways to reduce overhead costs 130

5.6 Chapter summary 130

References 132

6 Activity-Based Costing in Your Organization 133

6.1 The benefits of the ABC journey 134

6.2 Implementation roadmap for ABC 138

6.2.1 Concept-level roadmap 138

6.2.2 Implementation roadmap for a focused application 139

6.2.3 Phase 1. Planning stage: preparing for your ABC journey 140

6.2.4 Phase 2. Execution stage: developing your ABC system 144

6.2.5 Phase 3. Internalization stage: final tune-up 154

6.3 Common mistakes in the journey 156

6.3.1 Beginning your ABC journey without strong commitment from top management 156

6.3.2 Beginning your journey with poorly defined objectives and scope 157

6.3.3 Developing a task force that does not have the necessary authority 157

6.3.4 Developing more cost objects than needed 158

6.3.5 Making activities ambiguous 158

6.3.6 The effect of distorted time–effort % assigned to activities 159

6.3.7 Choosing cost drivers that are hard to measure 159

Index 161