Activity-Based Costing in User Services

ACTIVITY-BASED (ABC) IS A NEW COSTING METHOD that is COSTING rapidly gaining favor in service organizations. The rationale for using ABC in a library is the same as for other organizations; to allocate indirect costs to products and services based on the factors that most influence them. This paper discusses the benefits of ABC to library managers and explains the steps involved in implementing ABC in the user services area of an Australian academic library. INTRODUCTION The financial environment in which Australian universities operate is presently undergoing major changes. A reduction in funding by the Australian federal government and competition from other institutions for diminishing resources has created a political climate in which universities are being pressured to attract external funding to maintain infrastructure and courses previously funded by government. Students are being forced to contribute more of the funding towards their degrees. This is leading to greater expectations for quality services and a demand for more online resources to be provided by university support areas, such as the library, which further increases university costs. Escalating costs, diminishing resources, increased competition from other universities, and demands from legislators and the public for greater service and accountability are forcing university administrators to consider more effective management of resources and costs than has traditionally been the case. This phenomenon is not confined to Australia, but also concerns universities in the United States and Great Britain (Council ofAd to Education, 1997; Mitchell, 1997). The pressures currently Jennifer Ellis-Newman, Lecturer, School of Accounting, Finance and Economics, Edith Cowan University, 100 Joondalup Drive, Joondalup, WA 6027, Australia LIBRARY TRENDS, Vol. 51, No. 3, Winter 2003, pp. 333-348 02003 The Board of Trustees, University of Illinois 334 LIBRARY TRENDS/WINTER 2003 facing universities are not unlike those encountered by manufacturing organizations, a decade ago. The manufacturing sector responded by developing new tools and techniques for measuring and allocating costs, while in the process gaining a better understanding of costs and cost behavior. Cost systems in the service sector are largely borrowed from the manufacturing sector and many service organizations followed their lead, adopting similar techniques to help with the management of costs. This has not been the case with educational institutions, which still maintain traditional fund-based accounting systems. However, things are changing, with recent studies being undertaken in Australia and overseas to examine the application of activitybased costing (ABC) in higher educational institutions (Ellis-Newman, Izan, & Robinson, 1996; DETYA, 2001). While full implementation of ABC in an Australian university has yet to occur, it is starting to take place in overseas universities (Tatikonda & Tatikonda, 2001). Traditional accounting systems in universities focus on the budget, which is designed primarily as a means of demonstrating to external agencies how ‘efficiently’ the institution manages its resources. Decisions are often based on how new activities will affect faculty or staff workloads with little consideration given to the actual cost of providing services. If costs are considered, it is often only the incremental or short-term costs, with little consideration given to long-term indirect costs which may be considerable. Activity-based costing is a much more useful management tool for university managers as it provides information about the costs of providing services and what causes those costs to be incurred. Activity-based costing provides managers with information that enables them to make informed decisions concerning the optimal allocation of resources so that activities that are nonvalue-adding can be discontinued and resources shifted to activities that provide the most value to the university. This paper discusses activity-based costing in the context of library operations at an Australian university; specifically at Edith Cowan University (ECU) in Perth, Western Australia. The paper discusses the benefits and limitations of ABC and illustrates the application of ABC to the user services area of the Churchlands campus library at ECU. Activity-Based Costing Activity-based costing is a new management accounting tool that has rapidly gained favor in practice. It was originally developed by Cooper & Kaplan (1988) and used in the manufacturing sector in response to dissatisfaction with traditional management accounting techniques that rely on volume-based methods for allocating overheads to product. Cooper & Kaplan (1988) argue that ABC provides a more accurate product cost than traditional cost methods because activities, not production volume, cause costs to be incurred. Activity-based cost systems collect costs to functional cost pools and then allocate these costs to products on the basis of activityELLIS-NEWMAN/ACTIVITY-BASEDCOSTING 335 cost drivers. The generators of costs are called cost drivers and cost behavior is caused by variations in activityvolume. An activity is defined as an event or task undertaken for a specific purpose (Horngren, Foster, & Datar, 2000). Examples of activities to be found in a library include material accessions, cataloging, loans processing, and the shelving of library materials (see Figure 1,page 340, for a more comprehensive list of activities). Activity cost pools are the accumulation of all overhead costs involved in the processing of each activity cost driver. The cost pool may be a very general accumulation, such as aggregating all costs involved in user services into one cost pool, or it may be more detailed so that each separate activity carried out in user services has its own cost pool. Aggregating all user services costs into one cost pool will greatly reduce the accuracy of the measured service costs, as the majority of activities in user services are driven by different cost drivers. For example, the cost driver for interlibrary loan costs is borrower requests received from other libraries and campuses, whereas book loans are driven by loans to internal borrowers. The cost of processing a book loan is cheaper than an interlibrary loan since book loans require very little time and effort. Internal borrowers locate the books on the shelves themselves and take them to the loans desk person to scan through the computer. The borrower undertakes the tasks of locating and fetching items, thus saving the library much of the processing costs. Interlibrary loans, on the other hand, employ higher-level staff and are much more time consuming to process than book loans. The interlibrary loan person has to locate the item on an ECU, Western Australian, Australian, or overseas database and then order and arrange delivery of the item to the borrower. An interlibrary loan request can take from five minutes to one hour to process depending on how difficult the items are to locate and their location. To allocate the same cost to interlibrary loans as is allocated to book loans would be inaccurate and would not adequately highlight the differences in the processing costs between the two activities. For the same reason, interlibrary loans have been further refined in this study to create four separate activities and cost pools because of differences in processing times, level of staff, and the cost drivers used in the various interlibrary loan functions (refer to Figure 1). Cost drivers are the events that cause changes in the behavior of costs in the activity cost pool. Once key activities have been identified, they are analyzed to determine the event (cost driver) that causes the costs in the cost pool to be incurred. For example, the receipt of a purchase order for library materials triggers materials accessioning staff to place an order, while unshelved books trigger the accumulation of costs to shelving. The more books needing to be shelved, the more staff and time involved in shelving and the higher the costs accumulated to the cost pool. In an ABC system, attention is directed towards the relationships between the cost driver and the activity cost. The relationships recognize that, in the long term, many 336 LIBRARY TRENDS/WINTER 2003 costs are variable, leading to a strong cause-and-effect relationship between the cost driver and corresponding cost. It is the level of activity of the cost driver that determines the costs in the cost pool. As the level of cost driver activity increases, more staff are pulled from other areas to cope with demand, thus increasing the costs in the cost pool. As demand decreases in an area, staff are shifted away from that activity to other areas where demand is increasing. This effect can he illustrated by the activity reference desk. The cost driver for the reference desk is the number of inquiries received at the desk. During the fourteen-week semester periods, the number of student and staff inquiries at the reference desk is much higher than during periods when classes have ceased. In the busy times, in order to cope with the increased demand, more staff are employed and rostered on the desk than when it is slack. This increases the salary costs in the cost pool. If additional staff were not employed and there was no slack in the resource base, the quality of service during busy periods would decrease. At the reference desk, this is likely to result in long queues or users simply walking away unsatisfied. If staff were not shifted away from the reference desk during periods of low demand, the cost of processing inquiries would be unacceptably high and slack would occur. Bmejits and Limitations in Implementing Activity-Based Costing in the Library Activity-based costing has many benefits for managerial decision-making, ranging from decisions concerning the overall direction of the library to matters of operational efficiency. One of the main benefits of Al3C is that it provides for a more accurate costing of library activities. Activity-based costing provides managers with an understanding of what drives library costs, making them more visible for cost-benefit analyses. As managers gain awareness of the true costs of providing senices, they can make choices that better utilize limited resources. Activities that are not value-adding can be eliminated so that resources are channeled to activities that are the most beneficial to the organization and increase efficiency, particularly where quality considerations need to be made. Activity-based costing can be applied to improving the quality of services provided by the library by ensuring appropriate allocation of resources to the most important areas. Under the University’s current accounting system, the library is provided with a line-by-line budget that allocates past expenditures to common cost centers according to expenditure type such as salaries, maintenance, travel, etc. Expenditures for user services and central library services are aggregated together with no identification of expenditure by campus, division, or section. There is no attempt to identify costs by activity or to determine what is driving the costs. For example, all expenditures on computer maintenance and software are allocated to common computer maintenance and software cost centers so the library manager has no idea whether the maintenance costs were incurred in cataloging or at the loans desk. Even mainELLIS-NEWMAN/ACTIVITY-BASED COSTING 337 tenance and other costs incurred by the Easy Loan system are not separately identifiable so library staff cannot readily determine whether it is cheaper to utilize the Easy Loan system or to process loans manually. Activity-based costing can also be utilized to derive a fee for charging out services to internal and external users and to facilitate benchmarking (Ellis-Newman et al., 1996). Universities recognize that, under the current system, they are unable to accurately determine a true cost of providing teaching and support services and for the charging out of services. Activity-based costing provides management with a reliable method for determining an appropriate fee. Activity-based costing has many benefits to offer the library and other support areas of the university. However, one of the problems to be overcome if the library does decide to implement an ABC system, is that the current university accounting system does not support the collection of activity-based information. An ABC system uses many more cost pools than those provided by university accounts. For example, to implement ABC, the university’s current single cost center for library salaries would need to be divided into multiple cost pools to represent the many activities carried out in the library. The setting up of the system will be initially costly. However, once the system is implemented, much of the necessary detail can be captured and analyzed using the university’s existing computer system. In the process, the defining of activities and identifylng of costs will provide library managers with a much better understanding of how the library uses its resources, which in itself is beneficial. The Study A study using activity-based costing was undertaken in the libraries at Edith Cowan University (ECU) and The University of Western Australia (UWA) in Perth, Western Australia in 1992 (Ellis-Newman et al., 1996; Ellis-Newman & Robinson, 1998). This paper discusses a subsequent study undertaken at the ECU Churchlands campus library in 2001. Since the 1992 study, ECU has undergone a major restructuring of its faculties and central administration. The faculty restructure comprised a merger between the former five faculties to create three: the Faculty of Business and Public Management (Business) ; the Faculty of Communications, Health and Science (Health); and the Faculty of Community Services, Education and Social Sciences (Education). In addition, the former Library services support area merged with Student Central and many library tasks previously performed manually were computerized. These included the introduction of Easy Loan lending facilities and the online ordering of interlibrary and intercampus loans. Many journals previously ordered in, processed, and shelved by library staff are now accessible to faculty members from their offices via online databases and are no longer physically acquired. Staff who were formerly involved in processing these activities have since been reemployed elsewhere. Apart from the computerization of some activities, the 338 LIBRARY TRENDS/WINTER Z O O 3 rest of the activities in user services are still being processed in a similar manner to the way in which they were handled in the previous study.