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Activity Based Costing for Construction Companies

First Edition



Young-Woo Kim

University of Washington,
Seattle, WA













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It was the mid-1990s when I got my first project engineer job – my first job after I graduated from college. The first project was an industrial project (cement plant construction), where the general contractor I worked for experienced significant cost overruns, although all team members including labor crews worked hard. I learned that there was not much room for cost reduction since most work was subcontracted, with fixed price contracts. I did not learn how to effectively manage the activities of management staff and overhead costs, although I did learn how to effectively manage project direct costs, through the use of several tools such as the earned value method. Senior management at the project tried to reduce the number of management staff to reduce overhead costs, but it turned out that the lack of management staff caused more confusion and inefficiency on the site.

My experiences as a practitioner prompted me to study process improvement and management of overhead costs. As a graduate student of CAL, I was fortunate in two ways. First, I was very fortunate that I had chance to work with some of the great minds of Lean construction, a new construction management paradigm, which placed its focus on the production systems. Gaining knowledge and background in production systems helped me expand my horizons in studying overhead cost management. Second, I was fortunate that I had chance to study activity-based costing – a new cost management paradigm – in the manufacturing industry in the late 1990s, when activity-based costing had not yet been introduced in the construction industry.

However, the application of activity-based costing to the construction industry was not an easy job. Because of the difference between manufacturing and construction, namely the nature of the organizational structure and the production system, activity-based costing requires adaptation to suit the specifics of the construction industry. My understanding of the production system and organizational structure of the construction industry, and the principles of Lean construction, allowed me to apply activity-based costing to this new context.

My first ABC project was a commercial building project where ABC was applied to managing the general contractor’s project overhead costs; this became my PhD dissertation in 2002. Since then, my ABC journey has continued. I expanded my ABC experience through consultation and research in different contexts, e.g., home office overhead costs, overhead costs at fabrication shops, etc.

I have noted the lack of reference materials on managing overhead costs in our industry. I felt the same way regarding construction education. It is true that the majority of cost management topics in the classroom in our industry still focus on managing direct costs such as earned value management and labor productivity. Although they are important, our industry and classroom need guidance on managing overhead costs. That is what motivated me to write this book.

This book has two main objectives: 1) to outline activity-based costing to be applied to different construction industry settings; and 2) to provide an implementation roadmap. I wanted to show the logic and simplicity behind ABC as well as the benefits of ABC. I hope that by reading the book, you will be able to create your own ideas about how to manage overhead costs in your organization.

I did not intend to write a complete treatment of an accounting method with which your accounting system is to be replaced. I did not write this book from an accountant’s perspective. Instead, I wrote this book from the perspective of an operational manager who is concerned about their production system.

Once people recognize increased overhead costs, some tend to reduce them by reducing workforce or replacing existing staff with a less experienced workforce. It can be dangerous to reduce the number of management staff or to replace existing management staff with less experienced (i.e., less expensive) staff without fully examining the relationship between overhead costs and the production system. In this regard, the task of managing overhead costs should involve people who do understand the production system. That is the reason why this book was written for operational management staff.

I provide several case studies, each of which will give you an idea of how ABC can be implemented in a different setting. In each case, I tried to set out what I learned from my experience so that you can avoid pitfalls.

Activity-based costing is a powerful tool for managing overhead costs. I believe that the knowledge and experience of activity-based costing which I gained through past consulting and research experiences are limited and need improvement. However, the compelling reason I wrote this book is that any advancement begins with a foundation, and somebody needs to pave the way for practitioners and researchers in the domain of managing overhead costs.

Yong-Woo Kim, Ph.D.
University of Washington, Seattle