True costs in the banking industry are well determined by activity based costing techniques rather than the traditional costing system. The Banking industry contributes significantly to the development of a country's economy. In India, after liberalization, the growth of banking industry is increasing rapidly. There is stiff competition between public banks, private banks and foreign banks. Making optimum profit is the ultimate goal of any bank. They are offering numerous packages and incentives to attract more customers to their banks.

Banks have now become more cost conscious about their various products and customers. `True' cost means the total of direct cost and indirect cost. Direct cost of banks is the interest paid on deposit accounts and indirect costs are salaries and allowances to employees, rent of the branch premises, general charges and depreciation of furniture, machines etc. The direct costs are easily identified to the products but indirect costs are not traceable to particular products. According to traditional accounting concept, direct costs are directly charged to the respective products but indirect costs are apportioned to the products on some suitable bases. Therefore, it is very difficult to determine `true' cost (i.e., products or customers in banks). Banks are keen to understand the real cost of products to determine the opportunities for cost improvement. Traditional costing system is not adequately equipped to determine the actual costs. New concepts, such as the Activity Based Costing (ABC) technique tries to overcome the drawbacks by cutting across traditional boundaries.

The ABC technique helps to identify the potential customer i.e., which customer is more profitable and which customer is not. Previously, the commercial banks were forced to charge the customer for services at regulated price without considering the actual cost of services but currently, due to increased competition, true costs of services of various accounts or products help to decide the actual transaction charges and thereby enable banks to make profit. Though the most important factor to determine the market price of the product is the cost, other major factors like product prices of competitors and customer value should not be neglected.

Banks control profitability of their operations through the establishment of profit center and separately identify costs and revenues of each profit center. Costs are incurred in the profit center and revenues are recovered through the transaction charges levied on customers. Profit center takes care of corporate accounts, retail banking, treasury operations etc. The activities may differ in different banks. The costs incurred by the profit centers are interest cost (interest on deposits) and non-interest costs like salaries to employees, allowances, rent, general charges etc. Revenue is generated from interest yield on advances and non-interest incomes like commission, exchange, brokerage etc. Such profit centers are known as "Strategic Business Units (SBU)", which generate profits and thereby contribute to the profit of the bank as a whole.