Key Takeaways
- Banks can uncover hidden costs through cost modeling.
- Direct cost method serves as a basic way to track costs to products.
- The activity-based costing method offers a more sophisticated approach.
- Time-driven activity-based costing incorporates time and capacity.
- Multidimensional costing combines product and client for different costs.
- Understanding all these elements leads to profit line realization.
The banking industry, like others, is often confronted with the challenge of uncovering and managing hidden costs. This task, while not unique to banking, requires specific strategies to effectively address it within the context of the industry.
The Art of Cost Modeling
Cost modeling serves as the primary tool for understanding the cost structure within a bank. This involves tracing the costs from the general ledger down to the products, essentially answering the question: How do the costs end up at the product level?
The Direct Cost Method: Limited Choice for Banks
The first approach to this is the direct cost method, a simple calculation that attempts to attribute costs directly to a product. This method, while effective in industries like manufacturing, has its limitations in a banking context. For instance, the cost of a credit card is not merely the plastic it is made from.
The Activity-Based Costing Method: A Sophisticated Approach
To address these limitations, banks often employ a more complex method known as activity-based costing. This method traces costs from the general ledger to resources, then to activities, and finally to products. It starts with allocating costs to the most important resources, activities, and products, usually in percentages.
Time-Driven Activity-Based Costing: Adding a Time Element
As cost modeling becomes more sophisticated, banks begin to incorporate actual numbers rather than percentages. This leads to the concept of time-driven activity-based costing, where the time spent on a certain activity and the required capacity for that activity are considered. This method allows for better cost management.
Multidimensional Costing: The Intersection of Product and Client
The final level of sophistication in cost modeling is multidimensional costing. This method acknowledges that the same product can have different costs depending on the customer type and other variables. Thus, the combination of product and client creates different costs, providing a more nuanced understanding of the cost structure.
The Bottom Line: Profit Realization
By understanding these various elements and how they interact, banks can uncover their hidden costs and manage them effectively. This leads to the profit line, the goal of any business, including banks.
