Assumptions. How Accurate Are They?
Oct 15, 2013
In my experience, cost modeling often uses a lot of assumptions, especially at the beginning of the process. Even if you know the manufacturing process as well as the plant manager or even better, you still have to make some assumptions about how costs are being utilized on the shop floor and how you want to properly include them in your product cost, if at all. Some questions I have received while doing these engagements that might help shed some light include:
• Our process creates scrap that sometimes is reusable, sometimes it is not. Should we be tracking this scrap if it is “reissued” into production?
• We currently do not track labor hours specific to any particular machine, work cell or product. Would it benefit us to do so?
• If 50% of our warehouse space is committed to shipping finished goods, receiving and holding the raw materials for production, should I apply those costs as overhead?
• If I am forced to make special deals for a particular customer, such as discounts or rebates that are out of my normal policy, should this be taken into consideration for my product costing?
• Does it make sense to implement some sort of specific identification process to try to attach freight bills to specific products that are leaving the warehouse?
• We manufacture many parts in-that become part of the ultimate end product, but we don’t keep an inventory on them and we don’t really cost them other than the materials and labor time that go into them. Should we do this differently?
• How do I keep track of and segregate labor costs when I have one employee responsible for three machines?
For the most part, the majority of these clients do not necessarily have the systems that are sophisticated enough to track this information or provide it at the simple click of a button, and often do not have the staff to dedicate time to it. Each of these topics alone could be broken down into a single blog post. The answers can never be “one size fits all”. For example, the first question related to scrap: if you are issuing raw materials into production and more than half of the raw blank is left over, should you scrap it? Or should you hope that some future jobs that come in call for the blank that is the “scrap” size remaining? What if you don’t get those jobs but only twice a year, should you pay for the cost to hold the scrap hoping that job comes in?
The bottom line is that each of these scenarios is specific to that particular company. Often, you can determine what route to take by performing some data analysis on the items in question and speaking with all relevant parties about what information CAN be obtained. However, if it is just the beginning of a thought, sometimes you have to make an assumption, based on whatever facts you have in tow, document it, and run with it. If you are performing the reconciliation process correctly, you will know quickly what your assumptions make you look like!
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