Cost AnalysisControl costsImprove cost structure problems show upCost structure relative proportion of each type of cost fixed, variable, mixedImprove effectiveness of firmWhich costs eroding profit marginWhat first? earnings decreaseAnalyze situation, target problem areas

Cost behavior Fixed remain constant i.e. equipmentVariable dollar amount varies in direct proportion to changes in activity level i.e. Battery in carMixed contains both variable and fixed elements license fee of $25,000/year and $3/dinner partyStepped costs variable but increases in big chunks i.e. Wages of maintenance workers

Make sure that costing done correctly, reduce costsStandard costing assigning overhead costs based upon one predetermined rate based on volumeActivity based costing - designed to provide managers with cost information for strategic and other decisions that potentially affect capacity and therefore affect fixed as well as variable costs.Most organizations maintain two costing systems internal most useful information.Uses drivers at various levels

Activity Based CostingTwo stage allocation processAssign costs to pools, then assign to products using cost driversI.e. Sell 50,000 CD units, 200,000 tape units = 250,000 units totalBoth require two direct labor hours to complete = 500,000 direct labor-hoursTotal manufacturing overhead = $10,000,000

Traditional Costing Method

ABC Costing

Full capacity constrained resource?Constraint limited resource that could restrict companys ability to satisfy demand how usedTheory of constraintsShould not necessarily promote products with highest CM but rather promote the product with the highest contribution margin per unit of constrained resource

Value chain analysis major business functions that add value to product and/or serviceEliminate or minimize non-value activitiesValue-added activities efficient as possibleDesign in quality reduce rework or scrapCosts of qualityPrevention costs plan the process to ensure that defects do not occurAppraisal costs measure the level of quality to insure customer requirementsInternal failure costs rectify defective output before reaches customerExternal failure costs costs associated with delivering defective output to customer

Effectiveness ratiosInventory turnover = COGS/average inventory how frequently sells inventoryJIT inventory systemLower costs by long-term contractsCloser relationship w/suppliers guarantee deliverReduce scrap by increasing qualityObsolete inventory on hand?A/R turnover Credit sales/average accounts receivable ability to collect cash from credit customersWhat is working?Reduce operating cycle need less working capital invest in more productive activities

Gross margin covers all costs - customers80/20 rule 80% of headaches come from 20% of customers how to find them?Customer profitability no problemsFind all costs product fulfillment cycleSome customers require extra workExtra sales calls, customer service, smaller transportation lots, smaller orders all add to costsExpend effort on customers that are most profitableDrop services that dont increase goodwill or profitable

Operating leverage increase profitabilityMultiplying force how sensitive is net operating income to percentage change in sales, if high a small percentage increase in sales can produce a much larger percentage increase in net operating incomeMix of fixed versus variable costsCapital intensive vs. labor intensiveLeverage multiplier - CM/NI

DownloadCapital budgeting spreadsheetTheory of constraintsCapital budgeting problemsRead Introduction to ABC CostingRead internal control processRead Survey Masters LLCAssign #3 ABC Costing/unit problem (due 2/2)Assign #4 profitability ratios (due 2/2)Gross margin % - 07-05Profit margin 07-05Return on Assets 07-05Return on Equity - 07-05