Activity-Based Costing in Public Administrations: A Business Process Modeling Approach

The traditional way of budgeting in public administrations is input-oriented; however, this system does not meet actual methods of efficient budget controlling as a mapping of output parameters. Due to challenges, such as the need for cost reduction because of decreasing tax revenues, pressure for controlling mechanisms is rising. Furthermore, Europe Pan-European directives foster process harmonization and introduction of IT-supported and optimized business processes in the public sector. In this regard, activity-based costing can be a useful instrument for efficiency measurement of public administrations output. Through the introduction of new public management and double-entry accounting public administrations, the opportunity to use cost-centered accounting mechanisms to assess process performance while evaluating their activities in a holistic concept is accomplished. Process modeling can be a useful instrument to help public administrations to capture relevant process knowledge and thus create the data basis for activity-based costing. for daily work grows. Against the background of declining tax revenues, cities and municipalities in Europe in particular have to deal with improving and redesigning their work routines (Becker, Niehaves, Algermissen, Delfmann, & Falk, 2004; Gronlund, 2002). Therefore, the support of the business process through IT like specialized procedures and workflow management systems plays a crucial role. However, this also represents a further cost factor. The cost-benefit ration for those IT investments often remains opaque to the administrations, limiting the intent to invest. DOI: 10.4018/jesma.2010100101 2 International Journal of E-Services and Mobile Applications, 2(4), 1-10, October-December 2010 Copyright © 2010, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited. Through New Public Management (NPM) new possibilities of cost control for public administrations arise. With NPM, the way of accounting in public administrations, e. g., in Germany, changes from the classical fiscal accounting to double-entry accounting as known from the private sector (Hood, 1995). Based on this new accounting approach, administrations have the possibility to introduce an almost complete resource usage concept (Jackson & Lapsley, 2003). Elements like target agreements concerning products and a contract management with the employees are essential constituents of this reformation. Activity-based costing is a useful instrument for public administrations. Public administrations, as an overhead intensive service sector, are suited particularly well in this case. NPM offers relevant data basis for activity-based costing. It allows for assessing administration processes from a cost perspective in different overhead areas (Brown, Myring, & Gard, 1999; Jackson & Lapsley, 2003). The obtained cost rates can be used for cost control as well as for comparing administrations and for comparing as-is and to-be costs. Process models are an appropriate measure for supporting activity-based costing. Process models are used for transparency issues concerning the knowledge of activity flows and for documenting the often implicit process knowledge of the employees. Thus, process modeling provides a qualitative description of activities, providing in depth-understanding and thereby a starting point for the quantitative analysis with activity-based costing (Tornberg, Jämsen, & Parakno, 2002). However, with business process modeling public administrations face specific challenges because their highly diversified product portfolio often contains more than 1,000 processes (Algermissen, Delfmann, & Niehaves, 2005). Using generic modeling languages like event-driven process chains (Scheer, 2000) or BPMN (Object Management Group, 2008) often turns out to be very difficult due to the large amount of processes (Becker, Algermissen, & Falk, 2007). The modeling method PICTURE, which has exclusively been developed for the needs of public administrations, has proved to be adequate for this field of application. It has been used for modeling and analyzing by now more than 1,000 processes in public administrations successfully (Pfeiffer, 2008). The contribution of this article is the combination of the domain-specific modeling method PICTURE and the concept of activity-based costing. This integration enables public administrations to model their processes fast and easily, to asses them from a cost perspective and based on this to carry out a process assessment and evaluation of reorganization activities. In the following chapter explains the basic concepts of activity-based costing and its applicability to public administrations. Afterwards the PICTURE method is presented as a modeling method especially developed for public administrations. In the fourth chapter both concepts are compared, their connection is set up and illustrated using an example. This article concludes with a summary and an outlook to future research areas. ACTIVITY-BASED COSTING IN PUBLIC ADMINISTRATIONS The central idea of activity-based costing is to change the way how overhead costs are broken down on outputs like products or services. Instead of distributing the overhead as a fixed percentage of direct costs, activity-based costing assigns costs according to the resources used, e. g., personnel resources, for producing the outputs. The resource consumption by the outputs is measured through their usage of certain activities or processes. Activities are tasks performed by an organization’s employees International Journal of E-Services and Mobile Applications, 2(4), 1-10, October-December 2010 3 Copyright © 2010, IGI Global. Copying or distributing in print or electronic forms without written permission of IGI Global is prohibited. consuming resources and in turn are creating the outputs. The frequency of execution for an activity is determined by the cost driver, an “event associated with an activity that results in the consumption of [...] resources” (Babad & Balachandran, 1993), e.g., an order. To calculate the activity’s cost driver rate – the cost rate for a single execution of an activity – the total costs for caused by the activity are divided by the cost driver. The total costs of an activity result from the share of the activity to the overall capacity of the resources used by it. Sometimes, the factor allocation resources costs to activities are called resource drivers (Cokins, Stratton, & Hebling, 1993; Gupta & Galloway, 2003). Due to these properties activity-based costing is especially suitable for application areas with a high overhead fraction. That is mainly the case in personnel intensive areas like the service sector. In service companies basically all benefit processes can be included in the activity-based costing. Activity-based costing is therefore a well suited and useful costing instrument for the service sector (Ruhl & Hartman, 1998). Public administrations mainly provide services, too. Therefore, personnel costs often are the dominating cost factor in this sector. At the same time, departments often offer multiple services at once in an administration and often several departments are involved in providing a service. Activity-based costing can help to better allocate the large amount of overhead costs to the services of the public administrations than simple measures like the number of employees of a organizational unit or their share of budget (Brown et al., 1999). The execution of activity-based costing requires identification, structuring and recording of the relevant activities or processes. A method that has turned out to be very useful for recording, documenting and also analyzing processes is process modeling (Green & Rosemann, 2000; Shanks, Tansley, & Weber, 2003). Hence, it is not surprising that also in literature respective approaches to integrate the two instruments have been discussed (Tatsiopoulos & Panayioto, 2000; Tornberg et al., 2002). However, a more detailed examination of the conceptual fit between modeling approaches and acitivty-based costing is still missing.