Product Profitability in Pharma Industry – ABM/ABC

This article is based on logic that goes behind the product profitability using activity based management/costing in a manufacturing plant that makes medicines. R&D costs will not be shown since this company pays royalties to licencor to utilize the formula/licensed technology.

Step-1: Define/ identify line items on the ledgers

 Ten major ledger items have been selected.

Step-2: Trace/separate the direct costs andindirect costs of products (selected cost object) from the identified ledgers

 

Step-3: Identify activities in two categories- support activities and operating activities

By the operating activities we mean here the primary activities in the value chain (or similar to that activities) and the supporting activities are the activities that support these primary value chain activities.

In a pharmaceuticals manufacturing company the following major activities are classified into two categories:

Table 2

Sl. Activity Activity types Comments
1. In-bound logistics Operating/ primary Receiving and warehousing of materials, issue of materials to the manufacturing  etc.
2. Machining Operating/ primary Machine set up, machine run for production
3. Quality Control Operating/ primary Checking and ensuring quality of materials received before it issues to production, quality checking of finished goods before it is packed for warehousing
4. Packaging Operating/ primary Packing of finished products for warehousing
5. Out-bound logistics Operating/ primary Warehousing and distribution of finished products
6. Plant administration and supervision Supporting To administer and supervise other activities at plant
7. Selling & distribution Operating/ primary
8. Marketing Operating/ Primary
9. Accounting Supporting
10. IT Activities Supporting
11. Human Resource Supporting


 

Step-4: Trace/allocate indirect costs (separated in step 2) to activity pools (identified in step 3)

In this stage we need to find out the resource drivers (also called first order cost drivers) based on which we can allocate identified indirect costs to identified activities (if a particular indirect cost is not traceable to a particular activity).

The following table (Table 3) will show the applicable resource drivers and quantity of resource drivers consumed by each activity for allocation of indirect costs to activities

Table 3

Activities

Resource drivers (first order cost drivers) in activity pools

Lab chemicals and accessories

Salaries & allowances

Wages

Depreciation-M&E

Depreciation-building

Electricity & fuel expenses

Promotional & advt. expenses

Repairs & maintenance-M&E

Assumed traceable from records

Assumed traceable from records

Labor hour

Cost of M&E used (‘000)

Area occupied (sft)

Kilo watt (kw) consumed

Assumed traceable from records

Cost of M&E  used (‘000)

In-bound logistics

2%

240

100

1,000

100

100

Machining

10%

720

140,000

5,000

50000

140,000

Quality Control 100%

5%

5,000

500

500

5,000

Packaging

1,200

150

500

50

150

Out-bound logistics

2%

240

100

1,500

100

100

Plant administration and supervision

20%

500

500

5000

500

Selling & distribution

31%

200

200

4000

200

Marketing

10%

100

100

3000

     100%

100

Accounting & IT Activities

15%

500

300

8000

500

Human Resource

5%

50

75

1000

50

Total

100%

100%

2,400

  146,700

        9,675

     71,750

         100%

   146,700

Tracing/ allocating indirect costs to activity pools in the following table (Table 4).

Activities

Indirect costs traced/ allocated to activities (on the basis of resource drivers of Table 3) (USD ‘000)

Lab chemicals and accessory.

Salaries &

Allowance.

Wages

Depreciation-M&E

Depreciation-building

Electricity & fuel

Promotional & advt.

Repairs & maintenance-M&E

Total

Traced

Traced

Allocated

Allocated Allocated Allocated

Traced

Allocated

In-bound logistics      1,500

     800

102

5,168

21

           3

     7,595

Machining      7,500

2400

143,149

25,840

10,453

   4,772

194,114

Quality Control 15000      3,750

5,112

2,584

105

       170

   26,721

Packaging

4000

153

2,584

10

           5

     6,753

Out-bound logistics      1,500

800

102

7,752

21

           3

   10,179

Plant administration and supervision    15,000

511

2,584

1,045

         17

   19,158

Selling & distribution    23,250

204

1,034

836

           7

   25,331

Marketing      7,500

102

517

627

12,000

           3

   20,750

Accounting & IT activities    11,250

        511

     1,550

   1,672

         17

   15,001

Human Resource      3,750

51

388

209

           2

     4,399

Total

15,000

75,000

8,000

150,000

50,000

15,000

12,000  

     5,000

330,000

 

In the next article we will look at allocation of costs to supporting activities.

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