Is Your Business Actually Profitable — or Just Appearing to Be?

Most business owners assume they know which of their products or services make money. But if your costing method isn’t accurate, you could be unknowingly subsidising your least profitable work – and undercharging for your most valuable.

Costing isn’t just a concern for manufacturers. Whether you run a law firm, a restaurant, a consultancy or a retail business, how you allocate costs directly affects your pricing, your margins and the decisions you make every day.

So let’s look at the two most common approaches — and why the difference between them really matters.

The Traditional Approach: Simple But Flawed

Traditional costing has been around for decades, and it’s not hard to see why it stuck. It’s straightforward: take your overhead costs, pick a single driver (usually labour hours or machine hours), and spread those costs across your products or services.

Job done. Or is it?

The problem is that modern businesses are complex. Not all products consume the same resources. A low-volume, highly customised order might require far more admin, setup time and management attention than a high-volume standard product – yet traditional costing treats them almost identically.

The result? Your high-volume, simple products get overcharged. Your complex, time-consuming work gets undercharged. You might even be making a loss on certain jobs without realising it.

Activity-Based Costing: A Sharper Picture

Activity-Based Costing (ABC) takes a more intelligent approach. Instead of one blunt cost driver, it maps costs to the specific activities that actually generate them – things like processing orders, setting up machinery, handling customer queries or managing suppliers.

Those activity costs are then allocated to products or services based on how much of each activity they actually consume.

The result is a far more accurate picture of what things truly cost – and what’s genuinely profitable.

For example: imagine two products – one that requires minimal setup and sells in large quantities and another that’s bespoke, requires significant preparation and sells in small runs. Traditional costing might show both as equally profitable. ABC would reveal the real story.

The Benefits Go Beyond Accounting

ABC isn’t just about more accurate numbers. It opens up a completely different conversation about how your business operates:

• Spot where money is being wasted – by identifying activities that consume cost without adding value
• Price with confidence – knowing your true costs means you can quote accurately and protect your margins
• Make better strategic decisions – which products to focus on, which to reprice, which to drop
• Understand your business more deeply – where your time, people and resources are really going

So Which Method Is Right for You?

Traditional costing can still work well for smaller businesses with straightforward operations and limited product lines. But if your business has grown, diversified or operates with significant overhead costs, it may be giving you a false sense of where you stand.

ABC is worth considering if you have:

• Multiple products, services or client types
• Complex or varied overhead structures
• A feeling that some work is busier – but less profitable – than it should be
• Ambitions to grow and need sharper data to guide you

We Can Help

Getting your costing right is one of the most impactful things you can do for your business — and it doesn’t have to be complicated.

At Surrey Hills Accountancy, we work with businesses to improve management reporting, pricing strategy and profitability analysis. If you’d like to understand how a better costing approach could work for you, we’d love to have that conversation.

Get in touch today.