Innovation & Proactivity in Cost Accounting

May 09, 2016

Once again, our costing accounting team has taught continuing professional education (CPE) classes for CPAs in both public and private firms. Our most recent class consisted of approximately 20 individuals virtually all from industry. Tara and I both recognize that every class we teach, we learn something from the participants which is innovative and useful when dealing with our clients and their cost problems.

Our recent class consisted of inexperienced and veteran cost accountants each offering varying perspectives on a variety of subjects. Every personal experience was helpful in providing new and unique perspectives to help the class members enjoy an informative session.

One of our attendees was a cost manager from a food manufacturer where a standard cost system had been implemented. The system was based on the development of current information for inventory valuation and individual product profitability. However, it also supported management control information for all departments of the business. This was being accomplished by publishing the most common variances at a frequency useful to the management team.. This also provided additional insight into how to best manage the company. After conversing with the attendee, I got the impression the system had been in place for quite some time and they had fine-tuned the system to the point that typical issue been worked out.

Based on my experience, many cost managers typically reconcile their systems annually. However, it may be many years before the system is updated and compared to actual results. This is necessary to ensure the system properly reflects the cost recovery processes in the plant. In this particular case, the company had decided to reconcile their cost system the general ledger on a monthly basis. At the end of every monthly reporting period, the cost system was being compared to the actual results to search for over or under recovered costs which might require revisions in the costing system.

For many companies, computing the full range of variances (including all direct cost variances, as well as the overhead variances) can be considered a type of reconciliation. However, what was unique about this particular company was the comprehensive review of all costs reconciled to the entire cost system for the month. I believe this frequency, although highly desirable to help support the accuracy of the cost system, was unusual in most industries for a variety of reasons.

Such a prompt review process can result in changes whether it is in overhead or indirect costs. These can be dealt with and incorporated into the costing system which allows any changes in the process to be reflected on a monthly basis in the standard cost system. This can be of great benefit to the management team, particularly to the extent that they have to make adjustments in processes or product selling prices to remain competitive and profitable in the market.

This individual was obviously a talented cost manager and was managing his company’s costing information in a way that was unique and proactive.

Categories: Cost Accounting

What Is The Purpose of Your Reporting?

May 03, 2016

As accountants, we are naturally good at reporting data. Do you ever take a moment to consider how many items you report on a daily basis? Weekly? Monthly? More importantly, do you know why such information is essential?

During the seminars I teach, I ask participants if they were to stop providing the data in their reports would others notice? It’s always interesting to observe the room as they ponder that thought. What would your answer to that question be?

Decision makers require specific information to analyze situations and ultimately make quality decisions about the future of the business. However, the key is have the right information and the right reports. Timing and accuracy are essential. Reporting on factory rent every hour is pointless. Reporting on material usage every month may be too late.

It is your job as the individual providing the key information to know and recognize what the end user requires to complete the circle. Take the time to discuss what they are looking for and how you may adjust your reporting to achieve success. Ultimately, you want your leadership to be able to take action and make the right decisions.

I challenge you to think about what you are currently doing and take the time to audit your process. Meet with the end user to gauge their needs. Be open to modifications. Analyze  your system and generate what is needed, not what has always been done.

Categories: Cost Accounting

Business Equipment: Break Even Analysis

Apr 29, 2016

Break-even analysis is used to determine the break-even point for a business. This is where the total revenues equals total expenses. In other words, the break-even point is where a company produces the same amount of revenues as expenses either during a manufacturing process or an accounting period. Such analysis can be a very valuable analytical tool to determine if action must be taken to increase sales or decrease your costs. Some business owners do not know their break-even point and instead enter each month blindly. This can be extremely dangerous as you are unable to be proactive, only reactive. Leading a business down such a road may result in an inability to recover and ultimately the failure of a business.

Business_Graphs13A more non-traditional application for a break-even point is using the calculation to help determine if an additional capital expenditure is worthwhile. If you are considering making a large investment by purchasing a new piece of equipment you will require a more methodical decision-making technique to determine benefit. Break-even analysis can be one of those techniques. Purchasing a new piece of equipment may reduce your variable costs. However, it will increase your fixed costs, such as interest and depreciation. If the decrease in variable costs is not more than the extra in fixed costs, it is not a viable investment. In theory, your break-even point should be reduced with the purchase of new equipment.

There are some important considerations to be made when calculating your business’s break event point for a new piece of equipment. You must know what the fixed costs will be for the equipment, the new variable costs, and the associated sales. These are all the necessary parts of a break-even analysis. It all seems simple enough, but if you are looking to purchase this machine, you do not yet have it to know these things for certain. It is important to do as much research and have as much valuable information as possible. Keep in mind, the dealership selling the equipment wants to make a sale and may inflate some of the positive numbers. This may mean you will be working with averages which may be on the low end or high end. Nevertheless, this can be a very valuable tool in determining if it is a viable option. If your sales will have to be so high to cover the costs of a new machine, then it may not be worth it.

Like all calculations, it is vital to have quality and accurate general ledger numbers to compare and understand. Do not review the implications of a purchase from one side – the expense side. Instead, make sure you consider the overall impact. Break-even analysis is your big picture view.

By: Tara West, CPA, CMA

Categories: Cost Accounting

Quality Decision Making In Manufacturing

Apr 11, 2016

While typically thought of as being analytical, I can prove to be spontaneous is given situations. At times, I have made significant decisions on a moment’s notice. For example, several years ago needed to retitle my car, which meant refinancing my loan. I determined the value of my car was equal to my loan balance. Thus, I considered trading in my car for a new one. In only a few hours, I purchased a new car. For some people, such quick decision making can be scary while others find it exhilarating. Regardless of your personality, having the ability to make swift decisions is critical to operating any business.

Business_Meeting19You may be presented with an opportunity to quote on a particular project and have a very short turnaround time. If such scenario were to occur, do you have the necessary information to make quality decisions in a short period of time? What about your resources, are they accurate? Do you know how much it will cost you to produce the product in question? Do you know how much it would cost to buy such product?

A good cost system will provide accurate data regarding the cost of producing a product. One of the most important decisions related to determining the production of a product is that of make versus buy. Can you extrapolate the necessary data from your current system to determine what it would look like to make or buy the product? All too often, these types of forward-thinking scenarios are not considered and therefore cost systems are not set up to consider such data.

In a make vs. buy scenario, one would consider it to be straightforward to determine what it costs to buy, meaning whatever an outside manufacturer would charge then that is what it cost to buy. Unfortunately, that is only part of the equation. There is overhead in a factory which must be recovered. If you stop making a certain product, you may no longer be fully recovering your overhead. You may also reduce costs if you stop producing a product but others will remain regardless as to if you produce anything at all.

A well-built cost system will segregate this information so you can easily extrapolate what is necessary to make an accurate determination. If you are currently looking to revise your system or create a new one, now is the best time to make sure it is structured in a way which best guides you in these type of decisions. If you are at this stage, then at the very least you must do your best to perform such an analysis.

Categories: Cost Accounting

Establishing Controls In Manufacturing

Apr 01, 2016

One essential aspect of business not always considered is developing controls. This could be related to a number of areas including how processes are handled, the accuracy of data, physical controls over products and materials, or internal controls.

I just completed a comprehensive document specifically related to process, procedures, and internal controls for one of my clients. This particular client did not have any formal written procedures, but stead a number of informal policies. Recently, management recognized the importance of documenting their current polices and implementing additional regulations for protection and to improve efficiencies.

Business_Graph19There are situations where a product may leave the facility without approval. Establishing safeguards and security measures to prevent such events is crucial to your business. Another example of physical controls can be those related to scrap. In some industries, scrap can be a considerable amount which may be costly. A significant resale value of such scrap may lead to intentional misuse and potential fraud. Having set standards and continuous monitoring can help deter possible fraud.

Another area requiring controls is with regard to the cost system. Most likely there are calculations and determinations made periodically within the cost system. Many times when reviewing a system, I discover erroneous and counterintuitive information. Unfortunately, by the time it becomes evident during my review, a considerable amount of time has passed. Thus, cost managers have been trusting their system’s information without evaluating to ensure the results are reasonable and realistic. Implementing controls within the program can help indicate errors to prevent these ongoing inaccuracies. I have seen many instances where manufactures have relied upon their inaccurate cost information to determine if they should enter into a product line or produce a specific product.

Of course, you do not want to implement so many controls there is no room for critical thinking or growth. However, you do want to eliminate as many inefficiencies as possible. Consider implementing some or all of these various controls. Start today by taking control!

Categories: Cost Accounting