Lesson 8 of 11
To understand if a product is truly profitable all costs have to be accounted for. Every cost accounted for shows if a profit is made in that product line. More often than not, companies look at making profit through volume sales. This is a fallacy. If a detailed costing is not undertaken it may give an inaccurate picture of profits. Special emphasis is therefore made on capturing all costs involved in the process.
Let us revisit Choco-bloc our chocolate producing company.
The basic tools to capture data at Chocobloc are:
The bills of material lists the items quantity wise required to produce the finished product.
Time cards help capture the following information:
Time and raw materials they will use on a job.
Time as a cost factor in production, i.e., total time taken to complete the job
The material requisition list helps capture all materials actually used to complete the job. This will include damaged chocolates as well that will be a cost in that job.
The job cost sheet is the paper trail that follows the flow of jobs through the factory. Here actual production costs are noted.
Challenges include letting workers know they are not being monitored through timecards and job cost sheets, preparing reports with adequate level of cost reporting and auditing the processes from time to time.
What cost is fixed and what cost is variable?
All costs can be broadly divided into fixed or variable costs. Some variable costs have a fixed element.
Costs that remain unchanged with increasing or decreasing volume of costs are called fixed costs. Rent, salaries, depreciation are examples of fixed cost.
Costs that vary with any increase in sales volume is called a variable cost. Direct materials, direct labour, packaging costs are examples of variable costs.
Costs that increase with slabs are called semi-fixed or semi-variable costs. For example if costs of transportation stay fixed for a certain volume, but vary after a slab they are called semi-fixed costs. These costs increase with sales at a slower pace.
Financial cost reports are useful if they are given on time. A month or two late may be of little use to a manager. Budget variances, cost control measures can be analysed and implemented with timely reports that measure costs correctly. In order to do this costs are captured as close to real time as possible. Real time accounting systems capture live all the time and cost factors.
Alternatively standard costing methods are used. In place of actual costs, standard costs incurred over a period of time are used to develop these reports. These costs can be assessed on a yearly basis. This helps preparing budgets on a timely basis.
Based on these reports a monthly variance analysis can be undertaken. Here it is analysed how much and why actual costs have varied from budgeted costs. It is a kind of course correction, wherein over time cost control is achieved, thus increasing profits per unit.
Variances are of two kinds’ price and usage. In price variance it is seen why the projected costs of materials vary from actuals-the how and why. In usage variances differences’ between projected quantity of material required and actuals are assessed.