Advanced Cost Management-Fall 2002 2
Critical Cost Terms• Fixed vs. Variable • Product vs. Period• Manufacturing vs. Non-manufacturing• Direct vs. Indirect• Controllable vs. Uncontrollable• Opportunity and Sunk Costs• Differential Cost and Revenue• Critical Success Factors (CSF’s)
Advanced Cost Management-Fall 2002 3
Cost Drivers and Final Cost Objectives
• Cost Drivers•Activity•Volume•Other
•Structural•Executional
• Final Cost Objective (FCO)
Advanced Cost Management-Fall 2002 4
Risk and Cost Mgt.
• Risk plays a role• Risk-prone vs. risk adverse• Systems are designed to
mitigate the negative aspects of risk preference
Advanced Cost Management-Fall 2002 5
Manufacturing Cost Flows
BOH
I
O
EOH
RAW MATERIAL WORK-IN-PROCESS FINISHED GOODS
B O/H R/M B O/H WIP B O/H F/G
R/M PURCHASES
TRANSFERS TOWIP
E O/H R/M
R/M TRANSFERSDIR. LABORMFG OVERHEADMANUFACTURINGCOSTS
COST OF GOODSMANUFACTURED(COGM)
E O/H WIP
COGM
COST OF GOODSSOLD(COGS)
E O/H F/GP&L
Advanced Cost Management-Fall 2002 6
Learning Curve Analysis
• Aircraft industry based• Practice make perfect--or at least more
efficient• Experience curve• Cumulative unit-time learning model
• x% unit reduction as volume doubles• Used in pricing, financial plans & stds.
• Softech example
Advanced Cost Management-Fall 2002 7
Learning Curve Applications
• Make vs. buy• Construction contracts• C-V-P• Standard cost development• Management control
Advanced Cost Management-Fall 2002 8
Learning Curve Limitations
• Requires repetitive tasks• Assumes constant rate of
learning• Productivity not effected only
by learning
Advanced Cost Management-Fall 2002 9
Regression Analysis
• Basic equation y = a + bx• Consider statistical relevance• Use common sense
Advanced Cost Management-Fall 2002 11
Contemp. Mfg. Environment
• JIT• Kanban• Work cells• CAD/CAM• FMS• CIM
Advanced Cost Management-Fall 2002 12
Trad. Costing Limits
• Overall purpose: accounting values
• Volume• Size• Complexity
Advanced Cost Management-Fall 2002 13
Activity Based Costing
• Benefits•More accurate costs•More accurate operating information•Better access to relevant costs
• Limits•Allocations are still used•Cost omission• Time and expense
Advanced Cost Management-Fall 2002 14
Ansari: MOA
• Strategic Implications• Info @ the cost of value-added
features• Info @ the overall cost of the product•Reflects time considerations in the
attribution process
Advanced Cost Management-Fall 2002 15
MOA, cont.• Attribute Implications
•Technical• Provides decision relevant information• Enhances process understanding
•Behavioral• Cost structure visibility• Facilitates communication• Empowers employees• Risk of “failed expectations” re: “true” cost
•Cultural• Supports process focus• Encourages cross-functional participation
Advanced Cost Management-Fall 2002 16
Ansari: IDC
• Strategic Implications•Quality: IDC draw together activities
that ensure quality (ie. supervision for medication administration)
•Cost: IDC are a major part of the total cost package and s/b managed
• Time: IDC reflect the impact of time based decisions (ie. hours of operation)
Advanced Cost Management-Fall 2002 17
Indirect Cost Definition
• IDC are costs that are common to more than one cost objective.
Advanced Cost Management-Fall 2002 18
IDC Sources
• Corporate overhead• Group overhead• Factory overhead• Marketing• Development• Other joint costs• See Ansari: IDC pg. IC-5
Advanced Cost Management-Fall 2002 19
Basis of Allocation is Key
• Controllable costs: users choice
• Attributable costs: users situation
• All indirect costs• REGARDLESS--all IDC’s must be
recovered
Advanced Cost Management-Fall 2002 20
Ansari: IDC
• Attribute Implications• Technical: Improves decision
relevance and work process knowledge
•Behavioral: Must determine how the IDC system will impact people’s behavior
•Cultural: Allocation methods used will reflect the imbedded cultural values
Advanced Cost Management-Fall 2002 21
ABC Implementation• Select an area• Identify primary activities (5-10)• Cost each activity• Determine one driver for each
activity• Apply the costs to the final cost
objectives on the basis of the drivers.
Advanced Cost Management-Fall 2002 23
ABC/ABM Case-Gulfstream RecreationGulf Stream Recreation, a major sporting goods firm in California has two
major products--the Bobcat Racer and the Snidley Whiplash Cruiser. For the current year, overhead was planned at $850K. Overhead is applied on the basis of machine hours. Each racer uses 2 machine hours and each cruiser uses 1 machine hour. GSR planned to build 10K racers and 50K cruisers. The cost structure for each product is as follows:
Racer CruiserDirect Material $35 $50Direct Labor 25 13Machine Hours 2 1
GSR is considering some type of activity based costing system. Sandra Jones, the cost accounting manager, suggested the following drivers:
Driver Relationship to FCO Driver Total Activity Cost Total Racer Cruiser ActivityP.O.'s (#) $300K 2000 1250 750 Purchasing
Rework Hrs. (Hrs) $200 450 200 250 Quality ControlInvoices (#) $200 600 150 450 BillingChange Orders (#) $150 300 150 150 Mfg. Eng.
1. Calculate the unit costs of each product under the traditional method.2. Calculate the unit costs of each product under activity based costing.3. What pricing implications are inherent in this example.
Advanced Cost Management-Fall 2002 24
Gulfstream Recreation Solution
Standard Overhead Rate:$850K/70K Mhrs. = $12.14 per machine hour
Traditional Cost Structure:Racer
CruiserDirect materials $35 $50Direct labor $25 $13Overhead $24 $12
Total $84 $75
Advanced Cost Management-Fall 2002 25
Gulfstream Solution, continuedABC Overhead Rate:
Racer CruiserPurchasing $187.5 $112.5Quality control $ 88.9 $111.1Billing $ 50.0 $150.0Mfg. Engineering $ 75.0 $ 75.0
Total $401.4 $448.6Per unit $40.10 $ 8.97
ABC Cost Structure:Racer Cruiser
Direct materials $35 $50Direct labor $25 $13Overhead $40 $ 9
Total $100 $72
Advanced Cost Management-Fall 2002 26
ABC, ABM & Strategic Cost Applications
• Comparison of cost structure to competition• Pricing, design and other operational impact• Mass customization impact• Behavioral impact of common components• Changes in the production process• Changes in the distribution system• Changes in source and types of supplies/suppliers• Profitability impact• Identification and elimination of non-value added
activities• Quality and time implications