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Introduction to Performance Management
“When a team outgrows individual performance and learns team confidence, excellence becomes a reality” (Joe Paterno). Performance comes from self confidence, when people know they can do it, is the time when they will be actually able to do it. The Get Well Soon medi-clinic, is a private hospital situated in southern suburbs of Cape Town. They have special care wards as well as general wards. The hospital has two distinct classes of patients: one is the group consisting of elderly patients and the second one is the group of younger professionals, business people children. The second group belongs to a medical aid a hospital plan scheme run by an independent private company, Pro-Tect (Pty) Ltd. The costing method they use is conventional method. Costing methods are important and they should be carefully chosen in order to maintain the budgets and get revenues. The purpose of research is to explain how Get well soon clinic is trying to change its costing method from conventional to activity based costing which is a better costing system to adopt. Also it will assist in increasing the occupancy rate of GWS.
There are different types of costing methods: cost based pricing, value based pricing, etc. Conventional method which is being used at GWS is not appropriate and therefore, the occupancy rate is not up to the mark. Currently, it is adopted by this clinic which is more traditional way of allocating the production overheads which includes the overhead rate which is calculated using direct labour hours. It relies on irrational rather than cause-and-effect allocation of overheads. It does not provide accurate product cost. It cannot analyse non-manufacturing costs. Now, GWS should change its costing method from conventional to activity based costing. ABC method is much better way of calculating different types of costs and allocating cost budgets to various departments. It is a better tool for serving different needs of various customers.
There are many business people who have this perception that best customer is the one that accounts for the largest portion of your income every year. The thinking goes wrong as this might not be the case every time because same customer might be responsible for major part of expenses as well. In order to determine how much a customer is costing the organisation, it must first identify the activities that each customer accounts for and determine the total cost sopped up by those activities. These activities should be taken into consideration to measure the level of activity absorption by each customer. The main purpose of implementing ABC method in an organisation is to segregate these activities into individual cost drivers. Then, all you have to do is measure each customer's participation in the specific cost operators. Therefore, in this way GWS can design their service as per the different needs of various customers.
The main aim of the system is to reduce the overhead costs but is should be done carefully as it should not result in reducing the number of personnels. It evaluates cost of individual activities, which is based on the resources available. It enables accurate costing for all the activities in an organisation. It helps in identifying which activities cost more and which cost low, so that expensive ones can be looked for and improvements can be done. It is a useful tool in process improvement in an organisation. It helps in forecasting costs for future activities which assists in budget planning and accordingly managing the products and services before launching anything new. Expenditure and profits can be calculated accurately.
In the current scenario, management people face global competition and increased productivity in the changing environments. Clinics are customer focussed and therefore, providing quality at competitive prices should be the area of interest. It has been proven by some studies that the perversion in product pricing can be minimised by ABC costing system. It is a modern costing technique used to determine cost of the product for management reporting purposes. It is used in decision making process (Monczka, Gruman and Saks, 2011). Today the world outside an organisation is immensely competitive therefore, in order to cope up with such situations an organisation needs to be updated and match up the demands. ABC costing is one such method that will help the organisation in achieving a competitive advantage. Organisations need to improve their quality, authenticity and reliability and consistently reduce costs in order to compete and qualify. Overhead costing is a problem for most of the companies. ABC thus helps in controlling cost. It is a powerful concept that can be developed and used by an organization to better understand organisation's gross cost behaviour.
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At GWS, there are three cost drivers which affect the clinic's overhead costs: patient days in private and semi- private wards, patient days in the special care ward and the number of patients admitted. To manage all these departments there are a number of employees, doctors, other support staff and consultants appointed. They incur a cost to the company. Overheads increase with the size of the company. Due to budgets uptil now the costing system being used was also traditional and not advanced one. But to make it cost effective, introducing an ABC costing system will be an investment and not a cost. To earn better, achieve improvised occupancy rates, costing system needs to be upgraded. The main aim of ABC is to develop cost information in such a way that it will reflect the current relationship between costs, activities and products or services. However, a common perception prevails that ABC is a complex set of mechanics which needs to be integrated with the routine reporting system. It is also considered that this system is only for large organisation because of its initial set up cost (Taticchi, Tonelli and Cagnazzo, 2010). It is true that budgets go out of the way for implementing this kind of expensive system but it is worth the money. Any organization can make an efficient economic model of its business with ABC and it will support all kinds of management decisions in the company. It has been recently brought to public attention that ABC system is rarely used by service sectors. Currently, using the traditional method of costing, the clinic is allocating indirect costs to the employees working on the basis of direct labour hours. By using only labour hours to assigning the overhead to services, it indicates that labour hours are the primary cause of overheads. Therefore, the traditional method of cost accounting is inadequate.
The implementation of ABC costing system will be appropriate in order to make it cost effective and manage the overheads in a better way. There will also be an increase in the prices for the next few years to manage the expenses of the clinic. It is due to the inflationary increase which is affecting the expenses and to account for the same 5% increase in the cost is the requirement. This will also help in implementing a better costing system. The budgets will be adjusted and able to carry forward these expenses. It should be communicated to all the medical aid schemes, administrators that is the Pro- Tect to comply with the new pricing scheme. This step will have to be taken in order to achieve better occupancy rate and competitive advantage. It will also help the clinic to manage the expenses in various activities and in providing wages to the workers. Activity-based costing has become a major cost estimation and accounting methodology. This technique can be used for cost calculation, it is being practised with a considerable rate of success.
The advantage of ABC system is that it allows accurate calculation of direct and indirect cost. Its existence proves the acceptability of ABC as a potentially valuable and innovative costing method that adds value to the performance management system. The major difference between ABC and traditional cost system is: traditional system uses actual departments or cost centres to define cost pools to accumulate and redistribute costs. Implementing this project is not a minor exercise. There are some difficulties which organisations come across during the implementation of these systems, they are: data availability, relevant data, possibility of data assumption, staff collecting data are available and knowledgeable and a project team. These are the requirements but how precisely they are available is to be taken care of. Activity Based Budgeting is a part of Activity Based Management System that draws its conclusions from activity based costing (Guest, 2011.). ABB analyses the products or services to be produced, what are the necessary activities to produce those products or services, and finally what resources need to be budgeted to perform those activities. In other words, ABB is the reversing of the ABC process to produce financial plans and budgets. It concentrates the elements that incurs cost and not only on the historic expenditures. ABM is defined as the action taken by manager based on the ABC study to improve the effectiveness of activities and profitability of products. This is done in order to make optimized use of resources to get the maximum outcome. Organisations use to build different models for customer and product analysis and due to expansion of models across units they could not take a holistic view of cost and profitability. ABC has helped many service organisations to improve their competitiveness which can be done only by better decision making that is based on an advanced understanding of their product cost