Establishing Order in Your Cost System

Apr 09, 2015

I was having lunch the other day with an old friend who is a CFO for a manufacturing company in northwestern Ohio. He has extensive job costing experience with a number of different manufacturers and has a very good perspective on how cost systems should work and the kinds of problems frequently found in today’s manufacturers. He is relatively new to his current position and has been distracted by other urgent matters in his first year. However, he is now available to begin working on some of the costing issues that he has uncovered since he first started.

This is a multi-plant operation and one of the plants has serious problems determining accurate product costs. He suspects a number of issues with the costing model including antiquated work standards, outdated bills of material and workflows, and irrelevant cost drivers.

OrderOur conversation centered around what to do first and how best to deal with what could be multiple problems within the cost system. Senior management has been urging him to do a quick fix and forego spending too much time or effort to get the model working properly. His approach is certainly to achieve the appropriate outcome in the most cost-effective way. However, he recognizes a quick fix which does not address the basic underlying problems will have the same result as doing nothing at all. In fact, a quick fix could be detrimental because those who use the information will believe a complete resolution has been reached.

Due to the large fundamental errors in the system, he thought it would be to begin with time studies for various products and processes in the plant. This would establish accurate work standards and associate them with the exact processes and products that were being produced. He recognized that time studies of the various products and operations could be exhaustive and expensive, but it would provide an engineering-based foundation for the rest of the cost system which would certainly improve its accuracy and relevance.

Although we did not talk about how to specifically identify new cost drivers and figure the appropriate rates, I’m sure he has very specific ideas as to how to capture that information in an accurate and usable form given his prior experience. The aspect he would find difficult to compute without outside assistance would be the work standards that he felt were fundamentally out-dated, and perhaps egregiously in error because of the number of years that have passed.

It has been my experience that there are many methods to develop work standards for purposes of providing a foundation for a costing system. I have had many assignments where I was hired to specifically for that purpose. During one particular project, we did not use engineering study techniques, but we were simply trying to approximate speeds associated with various processes in the manufacturing operation. We were able to develop reasonable estimates for each of the processes to be confident enough that the foundation of the system was accurate.

I have seen other companies that did not spend the time or effort to get their standards in order because they felt the workflows and the operational speeds were accurate enough to be reliable.

Each one of those situations are different and requires a cost manager with a good perspective of where the problems are and where the time needs to be spent to improve the system that is the most cost effective.

Categories: Cost Accounting