Activity Based Pricing – Activity Based Costing Can be Your.doc

Pricing for Profitability: Activity-Based Pricing for Competitive Advantage By John L. Daly MBA, CPA, CMA, CPIM Executive Education, Inc. One of the great legends of college football was Woody Hayes, coach of the Ohio State Buckeyes from 1951 to 1978. Woody’s Buckeye teams were famous for their running game. “Four yards in a cloud of dust” was the style of most Big Ten teams in those days. Hayes might tell you that he didn’t like to pass because “there are three things that can happen, and two of them are bad”. The same thing is true of product pricing. A price set too low is rewarded with unprofitable work. A price set too high becomes a lost sale that would have been profitable at a lower price. Only when products are priced appropriately does a company both make a sale and make a profit. While this is a simplistic view, in the real world, many automotive suppliers routinely under-price difficult or low volume work to the great satisfaction of their customers and overprice easy or high volume to the great satisfaction of their competitors. Pricing policies based on “average” cost work well only when “average” products are being priced. Today because many manufacturing companies produce a diverse portfolio of products using diverse processes, there may be few, if any average products. While many accountants have used arbitrary cost allocations to assign costs to products, CEO’s have longed for a better method to predict the “true” economic cost of business propositions. Many companies applied common sense methods of cost analysis to avoid arbitrary allocations, a task that got much easier after the invention of the personal computer spreadsheet. This common sense analysis sometimes found that the “real” cost and the “accounting” cost didn’t even reside in the same neighborhood. In the late 1980’s these common-sense techniques gained the respectability of an organized discipline under the name Activity-Based Costing (ABC). Activity Based Costing applied