The managers in organizations that are selling various products are undertaking significant decisions regarding the mix of products, pricing and process technology depending on the altered information of cost. In addition, there is rare existence of alternative information, which could alert the managers regarding the poor flaws of product costs (Patassini, 2017). Majority of the organizations identify the problem only after the deterioration of profitability and competitiveness. The current paper would aim to find out the issues in cost objective in different industries along with framing literature from diverse sources. Accordingly, the activity-based costing (ABC) system is used in the analysis and possible solution sections to overcome the issues related to cost objective. Finally, self-reflection is conducted in this term paper for depicting an insight of the learning made from the term paper.
It has been observed that the role of cost estimators is significant in the organizational context, since they provide most predictions of likely final cost of construction. As both overestimates and underestimates could be expensive, attention needs to be paid to the estimating tasks (Mei-Yung, Skitmore & Yee Shan, 2007). The altered information of cost is the outcome of appropriate choices of accounting made centuries back at the time most organizations produced few products. During that period, the cost pertaining to direct labor and material could be traced simply to distinct products. However, there is proliferation of the product lines and marketing channels in the current era (Wang & Xu, 2016). Direct labor depicts a small fraction of business costs, while expenditures take into account marketing, distribution, engineering and other overhead functions. However, the rising competition in the international economy and new technologies of production has resulted in rightful information of product cost necessary for maintaining competitive advantage.
Management accounting and conventional economics identify only variable costs, if there are changes in the short-term output fluctuations. Various significant categories of cost do not change with the short-term output variations; however, they change with the passage of time in relation to mix, design and group of customers and products of the organization. An effective system to gauge cost of products needs to be identified and assigned to products (Bierer et al., 2015). It is known to the business managers that costs are altered due to systems of accounting, which compel them to make informal judgments for compensation. However, few managers could estimate the influence and magnitude of the judgments made.
According to the research work of Edmonds et al., (2016), the distortions in product cost take place virtually in almost all the organizations manufacturing and selling various goods and services. For understanding the reason, two hypothetical plants are considered that fetch ballpoint pens. The size and capital equipment of the factories are identical. Each year, the first plant produces one million blue pens, while the second plant 100,000 blue pens per year. In order to fill the plant, the workforce is kept busy for absorbing fixed costs. Along with this, the second plant produces similar products like 12,000 red pens, 60,000 black pens and 10,000 lavender pens. In a particular year, the second plant manufactures 1,000 product variations having volumes between 500 units and 100,000 units. The aggregate yearly output is equivalent to 1 million units of the first plant and identical direct labor hours, direct materials and machine hours are needed.
Although the overall output and product are similar in both the plants, dramatic variations could be observed in them from the perspective of an unknown visitor. This is because the second plant might have greater support staffs, perform set-ups, expedited orders, better vendor negotiation and engineering change orders.
According to Hammour (2017), the success of an organization depends largely on the constant innovation, creation of the product lines of the organization and rising clientele numbers. Hence, planning, projecting and controlling costs are some of the crucial constituents in the project management of an organization, as they contribute to the success of the organization along with assisting in measuring the cost performance. In project cost management, the stakeholders need to be identified. This is because they are the main parties having impact over the organization and its future endeavors (Nitti et al., 2016). The major stakeholders of the organization include staffs, government, customers, institutions, investors, suppliers and shareholders. Hence, in order to ensure the success of a project for the organization, measuring cost is essential for fulfilling the needs of all the stakeholders (Jeang, 2015).
With the help of planning, estimation and controlling costs, the cost performance of an organization is gauged through its executive managers. It is necessary for the leaders to act as role models, as they are the main drivers of all projects. This is because they are engaged in the project planning process along with making vital decisions (Ashworth & Perera, 2015). It is necessary for them to devise out the estimates of all the resources needed for the project, detect all the activities engaged in the project and formulate an estimate of the overall time and budget of the project to ensure its success.
In the words of Gürel & Cincio?lu (2015), the redesigning of the systems associated with cost need not be limited to the costs related to factory support. Many organizations have selling, general and administrative costs, which are more than 20% of the overall revenues. However, those costs are treated as period expenses and they are not charged to be distributed to the products. The treatment of “below the gross margin line” is sufficient, when needed; however, in accounting, it is not an effective practice for gauging product costs. Hence, based on the above evaluation, it could be found that the cost objective has three major functions, which comprise of external measurement to report to the outside world and internal measurement to ascertain the cost of products manufactured, machine rates and labor rates.
Certain deficiencies are inherent in case of typical systems of cost accounting and in this, activity based costing is greatly considered (Zeff, 2016). The theory behind this costing system is deemed to be simple. Almost all the activities of various organizations are there to support delivery and production of recent products and services. They can therefore base deemed as product costs. Moreover, as the entire factory along with corporate support costs is distinguishable, they could be segregated and traced to particular groups of products. Such costs encompass:
There is a significant impact of activity costing, as it can indicate the costs of products, which are entirely different from the data developed from traditional systems (Chambers, 2014). Such variances take place due to highly sophisticated initiative of the system attributed to corporate and factory overhead along with other resources of the company. The system of tracing cost, initially from resources to activities and them from such conducts to particular goods, might not be conducted with great precision. Four significant digits cannot be anticipated to add additional pressure on support sources of initiating two new product segments. For this reason, activity-based costing is considered as a superior measure that includes 5% to 10% of real demand. This is made on the part of a product on company’s resources, instead of precisely inaccurate.
Manufacturing overhead is also observed to have considerable impact under old cost systems (Settanni et al., 2014). Cost information regarding the repetitive goods is explained in the elk table that illustrates the ways in whichproduct profitability is changed by activity based costing.
Under old cost system, per unit overhead charge is not different among the seven valves varying between $5.34 and $8.88. The costs of overhead in this new system are traced directly to the conducts pertaining to factory support and the goods. This leads to increase of per unit overhead cost gradually from $4.39 to $77.64. With having four low-to-medium volume goods (Valves 2 through 5), the anticipated overhead cost boosted by 100% (Settanni et al., 2014). Conversely, the overhead cost decreased for two highest volume goods (Valves 1 and 6). Within labor based cost system, Valve 3 is deemed to be highly profitable product having 47% gross margin value. However, the costing systems related to labor do not underestimate the demand of overhead associated with low volume goods. For instance, valve 7 denotes the volume that is the second lowest within the group signifying drastic overhead decrease within an activity based system.
Most of the overhead costs of a factory are related to parts of ordering, maintaining effective track of the same, analyzing them and setting up to the aspects of production (Settanni et al., 2014). In case of the manufactured components and parts or those ordered in huge volumes, there is modest effect on the transaction cost per unit. For this reason, the specialized products that are assembled from the aspects of high volume would have lower cost of production, despite the lower shipping volume.
Certain possible solutions for effective cost measurement includes the formulation of an appropriate activity based costing system. The initial step in this system would be to devise out a cost system, which is totally new to the organization. This can facilitate in gathering accurate information on materials costs and direct labor (Mishan, 2015). Moreover, it is crucial to analyze the demands that particular products have on indirect resources. There are three rules that would help in aiding this process and they constitute of:
Rule 1: Maintaining focus on resources those are expensive
Rule 2: Allocating resources whose consumption considerably varies by product and its types and looking for diversity
Rule 3: Focusing on the resources that demands patterns are uncorrelated with measures of traditional allocation that includes processing time, materials and direct labor (Shevtsiv, 2017).
Activity based cost system solution is applicable in every industry. Considering the same rule 1 leads to resource categories in which the new costing system process has the capability to make huge differences in the costs of the project. For instance, an organization that develops industrial products with high factory costs of that will want a system that focuses on tracing manufacturing overhead to goods (Baker & Dworkin, 2017). Rule 2 and 3 recognizes resources with increased distortion potential within the traditional systems. This solution includes methods and principles illustrated in confectioning steering of manufacturing. This is applicable to all the significant corporate resources collection within manufacturing service industry.
Conclusion:
The above discussion clearly states that many managers understand that their accounting systems alter the product costs, which compel them to make informal judgments for compensation. However, few managers could estimate the influence and magnitude of the judgments made. It has been observed that the cost estimators play a significant role in an organization, since they provide most predictions of likely final cost of construction. As both overestimates and underestimates could be expensive, attention needs to be paid to the estimating tasks. With the help of planning, estimation and controlling costs, the cost performance of an organization is gauged through its executive managers. It is necessary for the leaders to act as role models, as they are the main drivers of all projects. For mitigating these deficiencies, activity-based costing system is deemed as the most effective solution.
From the evaluation of cost objective, I have learnt that majority of the organizations identify the cost-related problem only after the deterioration of profitability and competitiveness. Along with this, I have found that the distortions in product cost take place virtually in almost all the organizations manufacturing and selling various goods and services. The examples discussed in this paper represent the way the activity-based costing system could result in radically various assessments of product costs and profitability in contrast to simplistic approaches. I have identified that if the executives are provided with accurate cost information, they could formulate a group of strategic options. This could be in the form of dropping unprofitable products and raising prices drastically. Additionally, I have found out that the success of an organization depends largely on the constant innovation, creation of the product lines of the organization and rising clientele numbers. Hence, planning, projecting and controlling costs are some of the crucial constituents in the project management of an organization, as they contribute to the success of the organization along with assisting in measuring the cost performance. These issues could be solved with the help of activity-based costing system, as the managers could undertake effective decisions related to pricing, product design and marketing.
References:
Ashworth, A., & Perera, S. (2015). Cost studies of buildings. Routledge.
Baker, R. W., & Dworkin, N. R. (2017). Health care finance. Jones & Bartlett Learning.
Bierer, A., Götze, U., Meynerts, L., & Sygulla, R. (2015). Integrating life cycle costing and life cycle assessment using extended material flow cost accounting. Journal of Cleaner Production, 108, 1289-1301.
Chambers, R. L. (Ed.). (2014). An accounting thesaurus: 500 years of accounting. Elsevier.
Edmonds, T. P., Edmonds, C. D., Tsay, B. Y., & Olds, P. R. (2016). Fundamental managerial accounting concepts. McGraw-Hill Education.
Gürel, S., & Cincio?lu, D. (2015). Rescheduling with controllable processing times for number of disrupted jobs and manufacturing cost objectives. International Journal Of Production Research, 53(9), 2751-2770.
Hammour, H. (2017). Use of computerized accounting system and cost accounting techniques in hospital settings of UAE. Journal of Health Informatics in Developing Countries, 11(1).
Jeang, A. (2015). Project management for uncertainty with multiple objectives optimisation of time, cost and reliability. International Journal Of Production Research, 53(5), 1503-1526.
Mei-Yung, L., Skitmore, M., & Yee Shan, C. (2007). Subjective and objective stress in construction cost estimation. Construction Management & Economics, 25(10), 1063-1075.
Mishan, E. J. (2015). Elements of Cost-Benefit Analysis (Routledge Revivals). Routledge.
Nitti, M., Pilloni, V., Colistra, G., & Atzori, L. (2016). The virtual object as a major element of the internet of things: a survey. IEEE Communications Surveys & Tutorials, 18(2), 1228-1240.
Patassini, D. (2017). Beyond benefit cost analysis: accounting for non-market values in planning evaluation. Routledge.
Settanni, E., Newnes, L. B., Thenent, N. E., Parry, G., & Goh, Y. M. (2014). A through-life costing methodology for use in product–service-systems. International Journal of Production Economics, 153, 161-177.
Shevtsiv, L. (2017). Investigation of the mechanism of interrelation between accounting and budgeting in the enterprise management system: the strategic aspect. Technology audit and production reserves, 6(4 (38)), 39-47.
Wang, J. Y., & Xu, H. C. (2016). Transportation route optimization with cost object in China. Cluster Computing, 19(3), 1489-1501.
Zeff, S. A. (2016). Forging accounting principles in five countries: A history and an analysis of trends. Routledge.
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