6ag507 lecture 7 2013 cost management for udo

8/13/2019 6AG507 Lecture 7 2013 Cost Management for Udo

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PerformanceEvaluation

Week 8

Cost Management


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Objectives

To distinguish the difference between

traditional management accounting control

systems and cost management

Review different approaches to cost

management

This area will be continued next week


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21.1a

Traditional management accounting control techniquestend to focus oncost containment whereas cost management concentrates on cost

reduction.

Traditional management accounting control techniquesare routinely

applied on a continuous basis whereas cost management tends to beapplied on an ad hoc basis.

Many of the approaches that fall within the area of costmanagement do

not rely exclusively on accounting techniques

Drury 2008

Aim is to reduce cost but

increase customer satisfaction


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Life cycle costing

Slide 4

Is the profiling of cost over a productslife, including the pre-production stage.

Tracks and accumulates the actual

costs and revenues attributable to eachproduct from inception to abandonment.

Enables a products true profitability to

be determined at the end of its

economic life.


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21.1b

Life-cycle costing (LCC)

Traditional management accounting procedures havefocused primarily on themanufacturing stage of a product s life cycle.

LCC focuses on costs over the product s entire life cycle to determine whether

profits earned during the manufacturing phase will cover the costs incurred during

the pre-and post-manufacturing stages.

A large proportion of a product s costs can be committedor locked in during the

planning and design stage (see Figure 21.1 on sheet 21.2).

Cost management can be most effectively exercised duringthe planning and

design stage.

Drury 2008


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Slide 6

Product Lifecycle

volumes

time

Introduce

Growth

MaturityDecline

Develop

Sales

revenue

Profit


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21.2

Decisions made on

materials and labour in the

design phase are hard to

change at a later date

Drury 2008


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Slide 8

Lifecycle Impact

Shorter

product

lifecycles

Need to ensure

return canbe achieved

in the timescale

80% cost

incurred beforeproduct

reaches market

Clear

Planning

needed


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Implications of Lifecycle

costing

Slide 9

Pricing decisionscan be based on totallifecycle costs rather than simply the costsfor the current period.

Decision making -a timetable of life cycle

costs helps show what costs need to berecovered. Control -Lifecycle costing reinforces the

importance of tight control over locked-incosts, such as R&D.

Performance reporting -Life cyclecosting costs to products over their entirelife cycles, to aid comparison with productrevenues generated in later periods.


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Slide 10

Lifecycle costing - Summary

All costs and revenues measured throughout

product life

Price to manipulate demand / Product Life

Cycle stage

For example if a product is

coming to the end of its life

then the price may be dropped

to stimulate demand.


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Lifecycle costing example

Y ear 1 Y ear 2 Y ear 3 Y ear 4

Units manufactured and sold 2000 15000 20000 5000

R &D C osts 2,500,000 100,000

Marketing costs 150,000 80,000 45,000 10,000P roduction cost per unit 555 430 390 450

C ustomer services cost per unit 55 45 45 45

Disposal of specialis t equipment 250,000

The company is looking to set a sales price of 500 per unit.

R equired: C alculate the cost per unit ac ross the whole lifecycle and comment

on the s ales price.


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Lifecycle example solution

L ifec yc le c os ts 000's

R &D C os ts 2,500 + 100 2,600

Marketing cos ts 150 + 80 + 45 +10 285

P roduction cost per unit s ee below 17,610

C ustomer s ervices cost per unit 1,910

Dis posal of specialis t equipment 250

22,655

T otal number of units 000's 42C ost per unit 539.40

Workings

P roduction costs per unit 555 430 390 450

Units 2000 15000 20000 5000

T otal costs 1,110,000 6,450,000 7,800,000 2,250,000

T otal 17,610,000

C ustomer s ervices

C ustomer s ervices per unit 55 45 45 45

Units 2000 15000 20000 5000

T otal costs 110,000 675,000 900,000 225,000

T otal 1,910,000


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21.3a

Target costing

Focuses on managing costs during a product/services planning anddesignphase.

Involves the following stages:

1. Determine the target price which customers will be prepared to pay for the

product.

2. Deduct a target profit margin from the target price to determine the targetcost.

3. Estimate the actual cost of the product.

4. If estimated actual cost exceeds the target cost investigate ways of driving

down the actual cost to the target cost.

Drury 2008


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21.3a

Target costing

Iterative process involving:1. Tear-down analysis

2. Value analysis and functional analysis

It is important that target costing is supported by an accurate costing system using

appropriate cause-and-effect cost drivers.

Examine a competitors

product for ideas on cost

savings

Eliminate any extras

that customers are not

willing to pay for

Drury 2008


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Slide 15

Target costing

Traditionally:

Cost

(1st)

mark-up

(2nd)

selling

price

(3rd)

The focus

is internal


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Slide 16

Target costing

Target costing:

target

cost

(3rd)

Profit

(2nd)

selling

price

(1st)

The focus is

external


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Slide 17

Example

/unit

Target price 67.50

Target profit (w) 37.50

(w)Target profit per unit = 1,500,000 / 40,000

= 37.50

Target cost 30.00

If target profit is 1.5m, units sold 40000 andSelling price is 67.50 what is the target cost?


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Slide 18

Target Costing

Estimated

costCost GapTarget cost- =

How do companies close a cost gap?


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Car manufacturing activity:

A mid range car manufacturer has a cost gap with

their latest four door saloon model. The selling

price less the profit margin is far less than the cost

of the car.

What can they do to reduce this gap?


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Slide 20

Target costing - Summary

Selling price set withreference to market

Desired profit subtracted tocalculate target cost

Cost gaps closed via design& development of product

21 3b


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21.3b

Kaizen Costing

Kaizen costing is applied during manufacturing stage whereas target

costing is during planning stage.

Kaizen costing focuses on production processes whereas target costing

focuses on the product.

Kaizen costing aims to reduce costs of processes by a pre-specified

amount relying on employee empowerment.

Drury 2008

Making continuous small changes to processes toimprove them rather than huge innovative changes

21 5


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21.5a

Activity-based management (ABM)

Involves the following stages:

1. Identifying the major activities that take place in an organization.2. Assigning costs to cost pools/cost centres for each activity.

3. Determining the cost driver for each activity.

ABM focuses on managing the business on the basis of the activities that

make up the organization by managing the activities costs are managed in

the long term.

Traditional control reports analyze costs by types of expenses for each

responsibility centre whereas ABM analyses costs by activities (See sheet

21.6 for an illustration).

Knowing the cost of activities is a catalyst for triggering action to become

competitive.

Drury 2008


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21 6


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21.6

ExampleCustomer order processing activity

Traditional analysis (customer order processing

department) 000 sSalaries 320

Stationery 40

Travel 140

Telephone 40

Depreciation of equipment 40

580

ABM analysis

Preparing quotations 120

Receiving customer orders 190

Assessing the credit-worthiness of customers 100

Expediting 80

Resolving customer problems 90

580

Drury 2008

Why are we spending 90k

resolving problemswe cant

see this in the traditional method


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Tutorial Preparation

May 2012 Q5

Strategic management accounting includes

techniques that are different from the

traditional view.

Critically evaluate the use of target costing

and lifecycle costing in a mobile phone

manufacturer.

25 Marks

6ag507 lecture 7 2013 cost management for udo

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