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BP Presentation. Strategic Cost Management - A Profitability Tool, ICPAS North Shore Chapter, August 18, 2015, 20150811
1. Presented to ICPAS North Shore Chapter
August 18, 2015
Barrett Peterson, C.P.A.
Senior Manager, Accounting Standards, Procedures & Analysis
TTX
2.
A Brief Overview
Resources Reflected in Cost Management
Costs Objects – Product and Other Uses
Product Costing
Other Costing Applications and Examples
Cost Management Resources
Strategic Cost Management Barrett Peterson August 18, 2015
Strategic Cost Management – Tonight’s Presentation
3. Political risks – laws, regulations, changes in officials
Scientific Advances – graphene; battery technology; artificial intelligence; medicine
Global financial system
Central bank actions and agreements; the impossible trinity
“Hot capital “flows
Volatility and Disruptions
Global trade
Wage rates and wage arbitrage – outsourcing/off-shoring
Comparative advantage
Emerging consumer markets’ growth rates
Commodity distribution and economic power
Oil
Gas
Coal
Rare earths minerals
Cadmium [think batteries]
Conflict minerals/diamonds
Climate conditions – agriculture; energy; flooding and insurance losses
Fresh Water – a problem now and growing
Strategic Cost Management – Global
Environmental Factors
Strategic Cost Management Barrett Peterson August 18, 2015
4. U.S. Affordable Care Act and Exchanges – “Cadillac Tax” provisions
Technology Developments
Cybersecurity and Data Protection
Big Data
Advanced analytics
The Internet of things
U.S. Election preparation
U.S. “Crowdfunding” and Capital Availability
Global Financial System Continuing Drama
U.S Interest Rate Policy and Dodd-Frank rules
European Union and the Euro, emphasis currently on Greece – Drachma Drama
China’s Securities Markets Yuan Little Problem
U.S. Municipal Securities Markets: Pensions, Puerto Rico
Global Trade
Russian Nationalism, Sanctions, and Resources Trade
Middle East Political and Economic Developments
Commodity prices
Strategic Costs – Select Current
Considerations
Strategic Cost Management Barrett Peterson August 18, 2015
5.
Product and Service Design
Product Line Planning
Process Design and Planning
Capacity Management
Market Segment Decisions
Sales and Marketing Channel Decisions
Logistics and Distribution
Outsourcing
The Role of Strategic Cost
Management – Impacted Decisions
Strategic Cost Management Barrett Peterson August 18, 2015
6.
Strategic/Long-Term
Target Costing
Activity Based Management (ABM)
Intermediate
Activity Based Costing/Management (ABC/M)
Marginal Analyses – direct costing
Tactical/Short-term
Margin Oriented – Grenzplankostenrechnung (GPK)
Full Absorption – Traditional or ABC
Cost & Profit Management Time
Frames
Strategic Cost Management Barrett Peterson August 18, 2015
7.
Single product entities can use just about any costing
method reliably
Entities with few products with little difference in
resource consumption patterns can use simple cost
allocation methods: Activity Based Costing will add
little or no value
Cost Management Simplification
Strategic Cost Management Barrett Peterson August 18, 2015
8.
Price is an input unit measure
Driven by units acquired
Usually denominated as amount per unit acquired
Cost is an output measure
Usage inefficiency can drive waste, reducing output
volume, and dramatically increasing cost both directly
and by slow-down
Quality can affect waste and customer perception of
price, perhaps lowering price realization, reducing
margin [“increased cost”]
Cost –Key Reminder: Cost is not
equal to resource price
Strategic Cost Management Barrett Peterson August 18, 2015
9.
Cost elements and objects – key for today
Resources
Processes/Work Activities
Products, Customers, Channels
Cost Management Objectives
Effectiveness – doing the right things
Efficiency – doing things right
Economy – maximizing margin [can include cost
reductions, or improving revenues]
Strategic Cost Management Key
Aspects
Strategic Cost Management Barrett Peterson August 18, 2015
10.
Resource Elements
People – employees, consultants, advisors
Facilities, owned or leased
Equipment, owned or leased
Materials
Services – insurance, banking, etc.
Partners – suppliers, transportation,
communications, outsourced operations
Capital – Equity, debt, leasing, hedging, taxes, etc.
Cost of Business – Elements &
Drivers
Strategic Cost Management Barrett Peterson August 18, 2015
16. Drivers
Product Design, including features [market segments], appearance,
materials, packaging, and expected life
Process Design
Technology – Operations, Support Functions, Data and analytics
Logistics Requirements
Marketing and Sales Methods
Capital Markets
Value Chain Position
Cultural Expectations and customs
Legal Compliance
Tax
Regulation
Financial Reporting
Conduct and Social Responsibility
Cost of Business – Elements &
Drivers
Strategic Cost Management Barrett Peterson August 18, 2015
18. Economic Trade-off based
Target Costing
Life Cycle Costing
Allocation Based Methods
Traditional Product Based Allocation – Fixed vs. Variable
Driver Based Allocation
Resource Consumption Accounting
Activity Based Costing (ABC) applied to product objects
Theory of Constraints (TOC)
“Costed” resource consumption analysis [“Pure RCA]
Allocation Free or Limited – Direct/Attributable Costing
Oriented
Marginal Analyses [Direct/Attributable Costing]
Grenzplankostenrechnung (GPK) [marginal plus fixed]
Cost Practices & Techniques
Strategic Cost Management Barrett Peterson August 18, 2015
19.
Full absorption focused
Traditional – organization structure centered,
organized around organizational, often “siloed”,
departments
Process /Activity focused – relies on assigning costs
directly when possible, and using process drivers to
allocate indirect cots
Production Management focused
Marginal costing and process focused – GPK, although
GPK also contains a strong cost center focus
Cost Practices & Techniques
Strategic Cost Management Barrett Peterson August 18, 2015
20.
The Importance of Strategic Cost
Management
Strategic Cost Management Barrett Peterson August 18, 2015
21.
External Financial Reporting – GAAP: focused on
aggregate inventory levels and consistency to inform
investment decisions by investors
Income Tax Compliance – generally similar focus as
external financial reporting plus “full absorption” to
establish tax liability
Profitability Management – Product, Channel, Customer
or Customer Class Focused
Performance Management – Operating Function,
Department, Process, Channel, Customer or Customer
Class Focused
Costing Method Objectives
Strategic Cost Management Barrett Peterson August 18, 2015
22.
External parties
Capital provision determinations – costing at entity
level aggregation is all that is needed
Tax compliance – aggregate compliance at the tax
paying entity/group level to establish tax liability
Entity management
Allocations of resources among entities, products,
geographic operating areas
Planning and controlling performance management
Profit maximization/optimization
Costing Method Customers
Strategic Cost Management Barrett Peterson August 18, 2015
23.
Assignment to accounting/management periods – some
large costs are inherently imprecise as to period;
depreciation; loss contingencies; pensions; facility
variable rentals and escalation provisions; hedging costs.
Assignment within accounting periods become
increasingly difficult as the level of the costing object
becomes smaller in size or time duration, as with
products.
Allocation techniques sufficient for entity level results are
not reliable for more detailed levels at which management
must plan and operate – the driver of “drivers”.
The Cost Management Challenge –
Assigning/Allocating Costs
Strategic Cost Management Barrett Peterson August 18, 2015
24.
Direct costing always works, but many large dollar
costs are often not direct, particularly at the product
or product line level , introducing a level of
uncertainty to detail level decisions.
Time horizon improves the relative amount of costs
that are direct, but longer horizons provide reduced
tactical flexibility.
Direct margin analyses, at multiple levels, enables
comparison of long horizon planning and tactical
decision making.
The Cost Management Solution to
Assigning/Allocating Costs
Strategic Cost Management Barrett Peterson August 18, 2015
25.
GAAP – ASC 330 [formerly FAS 151 & ARB 43]
Production [manufacturing]or acquisition [retail] costs
Full absorption
Consistency
IRS – Full Absorption [of production costs] focused
Code section 471 – Inventory
Code section 472 – LIFO [elimination considered]
Code section 263 – UNICAP [some costs in addition to
production costs], including 2013 Final I.R.S
capitalization regulations
Inventory Costs – GAAP & IRS
Strategic Cost Management Barrett Peterson August 18, 2015
26.
Product [Inventory] and Product Line
Direct Costs
Identification of and allocation of indirect costs
Determine need, if any, to “tie” to financial reporting
Profitability Management
Operations Performance Management
Product design
Production Operations
Logistics, including Warehouse and Material
Handling
Product Costing – Today’s Focus
Strategic Cost Management Barrett Peterson August 18, 2015
27.
What do these have in common?
Close is sufficient
Product
Costing
Method
Strategic Cost Management Barrett Peterson August 18, 2015
28.
Product Design – Coordination with Manufacturing and
Marketing/Sales
Product Mix/Product Line Variations
Process Design
Complexity
Product Design
Manufacturing Techniques
Logistics and Material Handling Choices
Regulation and Compliance
Manufacturing Technology and Performance
Distribution and Logistics
Product Cost Drivers
Strategic Cost Management Barrett Peterson August 18, 2015
29.
Utilization Factors
Number of shifts – hours/day of use
Time paid not worked – holidays, vacations
Railcars in service
Operations Performance Factors
Set-Up vs. Run Time
Speed/Quality Control of Set-Up and Run - Throughput
Maintenance – time used vs. production failure costs
Waste Driven Slowing of Production Process
Loss of time [slowdown, rework]
Weather
Waste
Defective Material
Production Losses
Costs Drivers to Analyze/Reflect
Strategic Cost Management Barrett Peterson August 18, 2015
30. Assign costs directly as much as possible
Determine costs pools for variable type indirect costs for cost
management and control
Define around key drivers for allocation based on resource
consumption
Include costs which reasonably attach to the pool category
Consider two [or three] allocation layers,” indirect” indirect
functions like tools, patterns, printing plates
Determine if “reciprocal” relationships will be used
Consider collecting assigning fixed type indirect costs
separately using best available allocation basis
Establish Operating Departments for management
responsibility evaluation – variable and fixed indirect costs
Effective Cost Accounting
Strategic Cost Management Barrett Peterson August 18, 2015
31.
Effective Cost Accounting - Drivers
Machine hours
Direct labor hours
Material costs
Pallets handled
Printing plates used
Tool forms used
Patterns used
QC tests performed
Cubic feet of compressed
air
Mixing tank hours
Mixing tank hours
Labels issued
KWH used
Orders processed
Space used
Miles traveled for vehicles
Warehouse
insertions/extractions
Maintenance labor hours
Chiller hours
Strategic Cost Management Barrett Peterson August 18, 2015
32.
“Methods” – Resource Consumption Accounting
(RCA), Grenzplankostenrechnung (GPK)
Based on consumption of resources (drivers)
Applied to indirect costs
The big differences in “pure” application – will not
“tie” to conventional financial reporting
Replacement cost depreciation , w/o added output
Capital charge based largely on the depreciation
[capital] consumed or similar measures
Cost Accounting Methods –
Resource Consumption Methods
Strategic Cost Management Barrett Peterson August 18, 2015
33.
GPK in its fundamental form is a marginal costing system
Use “margin” level definitions, with differing levels of
allocation of indirect and fixed costs
Product margins
Contribution to production costs, including production
functions’ depreciation
Most useful for production scheduling
Use for channel scheduling
Calculate direct costs for both production or
manufacturing and for warehousing, distribution, and
logistics
Cost Related Decisions and Marginal
Costing
Strategic Cost Management Barrett Peterson August 18, 2015
34.
Use, carefully, throughput measures – profitability,
not optimization, is the business objective
Minimize down time – set-up, maintenance, materials
not ready
Speed and efficacy of machine operation
Optimize margin dollars per month
Be very aware of system constraints [bottlenecks] &
consider Theory of Constraints – margin dollar
optimization will usually require optimizing the
constraint process, not all processes
Cost Measurement & Performance
Management
Strategic Cost Management Barrett Peterson August 18, 2015
35.
Direct [final] departments – product volume variable
costs only
Separate each process containing different
cost/operations/unit output characteristics
Identify relevant output units
Fixed costs are separately collected and not assigned to
products
Indirect [primary] departments – variable costs only
Separate departments with different cost incurrence or
output patterns
Identify application basis or bases
To extent possible organize indirect cost pools with the
department structure
Product Cost System Design
Considerations – RCA/GPK
Strategic Cost Management Barrett Peterson August 18, 2015
36. General design aspects –
Consider replacement cost depreciation as more realistic
despite not readily reflecting potential process
improvements such as faster set-ups, or increased
throughput speed and accuracy/quality
Minimize design complexity by not allocating costs from
one indirect department to another indirect department,
unless significant to the product
Consider a cost of capital charge, as a function of
replacement cost depreciation
Derive a “full absorption” estimate by using percentage
reduction for capital charge and replacement cost
depreciation ratio to recorded depreciation [by included
processes]
Product Cost System Design
Considerations – RCA/GPK
Strategic Cost Management Barrett Peterson August 18, 2015
37.
Best used for –
Product pricing decisions
Outsourcing evaluations
Product design evaluation
Manufacturing process improvements
Cost Design System – RCA/GPK
Strategic Cost Management Barrett Peterson August 18, 2015
38.
Similar to GPK, except that the system is “full
absorption” focused and thus assigns depreciation –
usually actual book depreciation – to direct and
indirect departments
Costs are the sum of:
Direct costs
Direct operating departments costs – including fixed
costs - assigned by a relevant driver
Indirect departments costs – including fixed costs -
assigned by one or more drivers consumed by the
product or the direct process
Cost System Design – Activity Based
Costing (ABC)
Strategic Cost Management Barrett Peterson August 18, 2015
39.
Target Costing – cost management and planning,
follows six principles:
Price-led costing
Customer focus
Focus on design of products and processes [point at
which most life cycle costs are effectively committed]
Cross-functional teams [for comprehensive
perspective]
Life cycle cost reduction
Value chain involvement
Costing – Other Important
Applications
Strategic Cost Management Barrett Peterson August 18, 2015
40.
Attempts to address:
What are the sources of idle capacity?
How much unused capacity is assigned to product
cost?
How large of a threat is the hidden unused capacity?
Who is responsible for capacity management?
How are manufacturing activities communicated in a
common language?
How can we obtain more capacity without buying it?
What is the cost of insufficient capacity?
Costing – Capacity Management
Strategic Cost Management Barrett Peterson August 18, 2015
41.
Productive
Good production
New product
Process development
Non-productive
Standby, waste, maintenance, and setup
Process balance & variability; scrap; rework and yield
Scheduled & unscheduled maintenance: time, volume,
changeover
Idle
Marketable (idle) and non-marketable (excess)
Off limits; legal, contractual, management policy
Costing – Capacity Management –
Categories of Capacity Utilization
Strategic Cost Management Barrett Peterson August 18, 2015
42. Hydrox Laboratories: production and purchasing
Production planning and scheduling
Waste reduction through process improvement
Capital to improve quality – capping equipment
Bulk purchasing of hydrogen peroxide
Components purchasing
Hydrox Laboratories: logistics – per pallet shipping cost reduction
by altering truck load factor [per pallet, LTL, truckload]
Graphic Direct
Printing press speed
Scheduling by cut-off and color similarity
Personalization sizing test [MWWWWM]
Sorting and envelope filling speed improvements with more
experienced personnel
Cost and Margin Management
Examples
Strategic Cost Management Barrett Peterson August 18, 2015
43. Capital and Railcar life
Purchase vs. lease
Betterments and major modifications
Maintenance Cost management
Time based
Need [condition] based
New vs. reconditioned wheels
Labor scheduling and efficiency
Fleet Movement Management
Financing Costs Management
Private placement issue size
Specialized transactions
Insurance Risks
Self Insurance + stop loss and umbrella
Group Captive
Strategic Cost Management Barrett Peterson August 18, 2015
Cost and Margin Management - TTX
44.
www.goldratt.com
www.cam-i.org
www.bpminstitute.org
www.supplychainmetric.com
www.rcainstitute.org
Strategic finance Article on GPK, 2005
Google text string: GPK accounting
Google text string: Resource consumption
accounting
Cost Management Resources
Strategic Cost Management Barrett Peterson August 18, 2015
Editor's Notes
Impossible trinity in international economics; Cannot simultaneously pursue polices for more that 2 of: fixed exchange rates; free capital flow; and sovereign monetary policy