Costing the Banking Services: A Management Accounting Approach potx

Journal of Money, Investment and Banking

ISSN 1450-288X Issue 6 (2008)

© EuroJournals Publishing, Inc. 2008

http://www.eurojournals.com/finance.htm

Costing the Banking Services: A Management

Accounting Approach

Jordi Carenys

Professor at the Management Control Department. EADA Business School

EADA, c/o Aragó 204, 08011 Barcelona, Spain

E-mail: [email protected]

Tel: 934 520 844; Fax: 933 237 317

Web: www.eada.edu

Xavier Sales

Professor at the Management Control Department. EADA Business School

E-mail: [email protected]

Abstract

The present study aims to outline the characteristics of the cost systems used in

banking institutions. It does so by describing the partial costs and full cost systems in

banking institutions. It then looks at the limitations of these approaches to the current

competitive conditions and goes on to consider the applicability of the activity based

costing system in the allocation of indirect transformation costs to branches, products and

customers. Finally, we will look at the findings of a questionnaire to Spanish savings banks

in order to evaluate how widespread these systems are and how they are used in savings

banks. We found that direct costs systems predominate in customer and products entries

whereas full costs systems are much more widespread in the case of branches. Furthermore,

we also found that the use of activity based costs systems is very limited.

Keywords: Saving banks Cost structure Management accounting Cost systems Activity

based costing.

JEL Classification Codes: M41 – Accounting G21 - Banks; Other Depository Institutions.

1. Introduction

Historically, management accounting in banking institutions was introduced considerably later in

comparison with companies in other sectors. There are a number of reasons for this limited

development. This was due, on the one hand, to external causes. For example, it was not until the 80's

that competitive conditions in the banking sector fostered the development of accounting management

planning and control systems. On the other hand, there were also internal conditions that had to do with

the nature of the banking business and the operations that these companies carry out, which differ

significantly to those of other sectors. This hindered the transfer of models that had basically been

developed for industrial companies to the financial sector.

As regards internal factors, the accounting regulations set down by regulating bodies of the

banking system have traditionally been the starting point from which banking institutions have drawn

up their accounting information. The purpose of he latter was clearly to address the needs of central

Journal of Money, Investment and Banking - Issue 6 (2008) 35

banks that used this accounting information in order to supervise and control the solvency of the

financial system and to control the relevant variables of monetary policy (Túa and Larriba, 1986, p.37;

Cates, 1997, p.51-56; Kimball, 1997, p.24). Furthermore, the environment in which these companies

had traditionally operated had been sufficiently stable in order for them not to see the need to improve

their management accounting systems (AECA, 1994a, p.12-13).

On an internal level, Waden-Berghe (1990, p.569) Rouach and Naulleau (1992, p. 101-102) and

Carmona (1994, p.210) point out that the characteristic features of the products and the production

process of banks hinder the application of management accounting techniques: the intermediation

function they carry out, the permanence on the balance sheet of the main sources of income and

expenses, the problematic definition of outputs and input, given that there is no difference between the

nature of the raw material obtained via financial markets or deposit taking and the final product (loans),

the fixed cost and marginal revenue syndrome, the difficulty in allocating indirect costs to cost objects

or the diffuse figure of the customer-supplier.

However, the deep transformation of the banking system, and, more specifically, deregulation,

disintermediation and innovation processes, have ushered in changes to the competitive behaviour and

the information needs of banking institutions. We can therefore assume that the accounting systems of

these companies have most probably also evolved and established new conceptual frameworks 1

. As a

consequence of growing competition in the banking sector and the reduction of financial margins,

banking institutions have had to give increasingly greater importance to the planning and control of

their non financial costs, which has opened up the debate around the adequacy of the costs systems

currently in use in these companies (Scias, 1985, p. 48; Kimball, 1993, p. 5-20; Bos, Bruggink et al.,

1994, p.12; Carmona, 1994, p. 213). This essay aims to analyse the characteristics of the costs systems

of Spanish savings banks which operate in the universal retail banking segment. In the first place, we

will look at the different theoretical models that will enable us to analyse the financial intermediation

activity from a microeconomic viewpoint. Secondly, we will go on to describe the characteristics of

non financial costs in banking institutions, given that they influence the application of management

accounting in these companies. Thirdly, we will put forward a costs classification in savings banks that

facilitates the allocation of their non financial costs to different cost objects (centre of responsibility,

products, customers and activities). Based on the above, we can then go on to assess the use of

different costing systems, looking at both traditional costing systems (partial and full) as well as

activity based costing. The study finishes by presenting the results of a questionnaire given to the heads

of management control of Spanish savings banks with the aim of finding out which costing systems are

currently in use and how they are likely to evolve in the future.

2. The Production Process in Banking Institutions

This section aims to present an overview of the different theoretical approaches that interpret the

productive process of banking institutions. According to Bergés and Soria (1993, p. 17-23) the models

that explain the productive process of banking institutions can be grouped into three groups: partial

decision models, portfolio theory and services production. Let's look at these in more detail.

2.1. Partial Decision Models

Partial models focus either on the assets and investment decisions (loans versus the treasury) or on the

composition of the liability structure (capital versus deposits), considering the other part of the balance

sheet as an external or exogenous variable. In these models, the banking institution's balance sheet is

1

We can identify various evolution stages in bank accounting and management; for example, Chisholm and Duncan (1985, p.27-33) have divided its

historical evolution into three stages, Faletti (1986, p.88-95) refers to four stages, Rezaee (1991, p.26-28) and Roosevelt and Johnson (1986, p.30-31)

have established five stages, and Ernst & Young (1995, p.25-31) outline up to 11 phases. Having said this, the different number of stages by different

authors reflect differences in nuances but not in fundamental aspects because the evolution of information drawn up by management accounting in

banking institutions may be seen as a continuous process rooted in financial accounting that is evolving towards objectives that are more and more

related with tactical and strategic decision making.