Imagine you assemble ballpoint pens. You have a contract to assemble 1,000 per day for a customer. A quick calculation of all the materials, direct labour costs, fixed costs including your salary for one day, will give you an accurate cost per item. You now have an option to apply a mark-up on the product and sell it for a profit. This is the easiest stage of your costing process.
Your business grows and so does your client base and product lines, which now include pencil cases and pencil sharpeners. At this point you’ll need to re-evaluate your costing system. While fixed costs might stay the same, handling, logistics, selling and administration will increase disproportionately to sales. Your cost drivers for each product are now also completely different.
So, what is a cost driver you might ask? A cost driver could be any activity, process, or factor that directly or indirectly impacts on the cost of a product or service.
My work is currently heavily invested in the wine and viticulture industry and one of the biggest cost drivers for my clients in this industry is size and layout of the vineyard. Having longer vineyard rows, means less turning and idling time for tractors and other implements/equipment.
You can also choose to have narrower rows, which will equate to more vines per hectare. However, in this scenario, you’re encouraged to make budgetary provision for a higher cost on farm equipment (consider additional maintenance due to increased intensive usage of machinery) and intensive labour to allow for dealing with said narrower rows.
Without identifying the true product cost, it becomes increasingly difficult to have confidence in your pricing and costing systems, which should be delivering ultimate profit to your business. Inaccurate signals and lost focus on value-adding activities will eventually fail to eliminate inefficiencies.
On the other hand, an effective cost accounting system gives managers in your business a clear understanding of how business outcomes can change when those outcomes are focused on cost drivers.
Traditional cost accounting systems can be focused on direct expenditure, apportioning overhead expenditure based on sales, subsequently providing faulty signals to management.
Modern cost accounting systems focus on real value-adding activities, providing vital information for managers to administer their resources more effectively. Accurate estimates of service and product costs help managers to assess profitability and decisions about pricing and service mix.
We can analyse your total product line or service platform. Our method identifies and targets major cost drivers by isolating the expenses of indirect and support/direct resources, by activities. We’ll work hands on with your managers and operation teams to understand how the mechanics and processes of each product work and influence the cost drivers of your product or service.
Our costing systems will give you confidence in numbers and move your business closer to the position of a price-maker and not a price-taker.