Consequences of ABC Analysis

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Consequences of ABC Analysis
If Activity-based Costing has been correctly implemented, and it turns out a product is causing losses, does this mean automatically that the product should be discontinued?

activity based costing
The product should not be discontinued. To produce that particular product (in spite of loss) could be a strategic decision. For example, you get order for say 5 products which includes the 'loss making' product. The order says you supply all or nothing. Now, if the order, taking in to account all 5 products, is profitable then it makes sense to produce and supply the 'loss making' product. Same logic can be extended to a profitable customer also. In order to retain him and earn profit on sales to him at the end of the year, you might have to sell the 'loss making' product along with other profitable products.

Loss-making products
Agree with Vijay: there can be strategic or other valid reasons to continue the product, even if a correct ABC analysis shows it is causing losses. Of course we should investigate if there are other (more profitable) ways to manufacture the product or to keep the customer.

Loss-making products
Firstly one should never make the fatal mistake and discontinue unprofitable products and customers without thorough investigation. There are valid reasons, why one should continue unprofitable products some mentioned above:
1. All products, even unprofitable ones absorbe fixed costs. Even if such a product was discontinued, these fixed costs would remain within the business and depending on the fixed vs variable cost split to supply this product, overall profit could suffer.
2. It is a strategic "loss-leader" product that is sold in combination with profitable products.
Once one has determined that an unprofitable product needs to be continued the following profit optimising steps should follow:
1. Assess if a price increase is possible to make the product more profitable.
2. Investigate if the product can be sold in bulk to reduce transaction costs. 3. Investigate if the product can be manufactured / sourced at lower costs.

Kostadin Nedyalkov Krastev
Conversion costs are constraining the product mix. Product and customer sustaining activities can be reorganized to make a better branding. Customer repetitive actions on the profitable products,v95% of the costs for the unprofitable products must come from the unit and batch costs,vthen the goal must be minimizing the direct batch costs(making combinations with other products or buying some components), other decision maybe to make relationships with suppliers who can supply the product and making a minimum margin on the product. You all must always minimize all fixed or semi-fixed costs or I would say also constrained variable resources on the less profitable or unprofitable products and try to redistribute them to the profitable ones. You may set goals - if the trend is that for example in 70-80% or more of the orders in which the unprofitable product is bought and this product is 10-15 % or less of the order price, you have good margins.


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