Are you using a cost accounting process that supports accurate costing based on your business model?

Different business models require different product cost models. The most common costing system for manufacturers is standard costing. This approach relies on assigning a predetermined cost value, per unit manufactured, for direct labor, direct materials and overhead.

A primary driver of this type of system is that all of these costs elements are able to be accurately estimated at the time the standard is set, usually annually. If your primary cost elements are volatile within a given year, it may indicate that a standard cost system is not a good fit for your business model. Companies that don’t have tight controls of their production processes can also struggle with frequent variances in a standard cost model. If standard cost doesn’t fit your business model, other options can include actual cost, last cost or weighted average. Which option you chose is dictated by your business model.

Do you regularly book write-offs for materials due to excessive purchase price variances (PPV)?

PPV issues can develop due to a lack of supplier control or supplier performance issues. Have problems with suppliers lead you to secondary suppliers? Do you have strategic supplier partnerships with your critical suppliers? Does your material usage match the planned consumption levels in your costs system? Do your actual material consumption quantities closely match the planned materials per the bill of material? If there is excess material consumed based on actual production, your product is costing more than planned. This can be caused by some combination of:

  • Material standards are inaccurate
  • Inventory control issues
  • Manufacturing process issues
  • Supplier quality issue
  • A shrinkage problem

Are you consistently under or over absorbing labor costs to your products?

Under absorbing labor costs means you are assigning less labor to the product than it actually takes for manufacture which inflates your margins per item. Over absorbing means the direct inverse. In both cases your inventory is improperly valued and actual product margins are unclear.

Are you actually applying costs accurately to your products based on how the costs occur?

We have discussed some of the difficulties in dealing with direct labor and materials costs. It is often more difficult to properly align overhead cost with products. Does your current method of allocating overhead cost reflect the actual consumption of these costs by product? Do some products require more purchasing, engineering or quality control support? If so, are you properly aligning these costs with the correct product and in the correct amount? Do your booked product costs reflect your real product cost by SKU? If not, are your products properly priced to achieve your target margins?

The goal of a cost system is to accurately record the total cost of products produced, allow for identifying and tracking variances and provide critical information to the business for cost management, pricing and product continuation decisions. Is your cost system meeting this standard? If not, RSM can help. To learn more about how RSM can assist, contact RSM’s consulting professionals at 800.274.3978 or email us.