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Managing Costs and Revenues--MBA I--Spring 2008
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Managing Costs & Revenues
Professor William F. O’Brien, MBA, CPA
Spring 2008
Managing Costs and Revenues--MBA I--Spring 2008
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Session 2
• Strategic Cost Management Tools and Systems• Activity Based Costs and Management• The Balanced Scorecard• Tiajuana Bronze Case
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Cost Measurement Systems
• Focus on “…operating information for results.”
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Strategic Mgt. Actg. System
• Competitor cost information• Value Chain analysis• Strategic cost analysis…ABM• And others...
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Ansari: MOA
• Strategic Implications• Info @ the cost of value-added
features• Info @ the overall cost of the product•Reflects time considerations in the
attribution process
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MOA, cont.• Attribute Implications
•Technical• Provides decision relevant information• Enhances process understanding
•Behavioral• Cost structure visibility• Facilitates communication• Empowers employees• Risk of “failed expectations” re: “true” cost
•Cultural• Supports process focus• Encourages cross-functional participation
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Attribution vs. Allocation
• “The Scarlet Letter” revisited• Attributions promote
ownership and cost relationship understanding
• Arbitrary allocations do not reflect direct consequences and, therefore, are often ignored.
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Arbitrary Allocations
• When all else fails…at least it forces managerial discussions and negotiations.
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Activity Based Costing
• Application to Final Cost Objectives (FCO’s) on the basis of actual activities employed
• Estimations of actual, causal relationships are used…reasonably accurate costs of products, services and customers
• Can include fixed and variable amts.
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Types of Activities
• Transaction…# of events• Time or duration…time of
events• Cost per event
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Hints for Implementation
• K.I.S.S.• Focus on estimates• Start small• Close enough is good enough• Use Pareto’s law
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ABC Implementation• Select an area• Identify primary activities (5-10)• Cost each activity• Determine one driver for each
activity• Apply the costs to the final cost
objectives on the basis of the drivers.
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ABC/ABM Case-Gulfstream RecreationGulf Stream Recreation, a major sporting goods firm in California has two
major products--the Bobcat Racer and the Snidley Whiplash Cruiser. For the current year, overhead was planned at $850K. Overhead is applied on the basis of machine hours. Each racer uses 2 machine hours and each cruiser uses 1 machine hour. GSR planned to build 10K racers and 50K cruisers. The cost structure for each product is as follows:
Racer CruiserDirect Material $35 $50Direct Labor 25 13Machine Hours 2 1
GSR is considering some type of activity based costing system. Sandra Jones, the cost accounting manager, suggested the following drivers:
Driver Relationship to FCO Driver Total Activity Cost Total Racer Cruiser ActivityP.O.'s (#) $300K 2000 1250 750 Purchasing
Rework Hrs. (Hrs) $200 450 200 250 Quality ControlInvoices (#) $200 600 150 450 BillingChange Orders (#) $150 300 150 150 Mfg. Eng.
1. Calculate the unit costs of each product under the traditional method.2. Calculate the unit costs of each product under activity based costing.3. What pricing implications are inherent in this example.
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Gulfstream Recreation Solution
Standard Overhead Rate:$850K/70K Mhrs. = $12.14 per machine hour
Traditional Cost Structure:Racer
CruiserDirect materials $35 $50Direct labor $25 $13Overhead $24 $12
Total $84 $75
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Gulfstream Solution, continuedABC Overhead Rate:
Racer CruiserPurchasing $187.5 $112.5Quality control $ 88.9 $111.1Billing $ 50.0 $150.0Mfg. Engineering $ 75.0 $ 75.0
Total $401.4 $448.6Per unit $40.10 $ 8.97
Traditional Cost Structure:Racer Cruiser
Direct materials $35 $50Direct labor $25 $13Overhead $40 $ 9
Total $100 $72
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Remember...
• ABC does NOT yield “true” costs!
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Ansari: ABM
• Strategic Implications•Visibility on the efficiency &
effectiveness (the quality) of activities
•Visibility of costs for process redesign
• Insight into timing consideration of actions
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ABM, cont.• Attribute Implications
• Technical• Greater focus on work• Provides cross-functional cost impact• Highlights operational interdependencies
• Behavioral• Heightens importance of process knowledge• Reinforces continuous improvement• Empowers employees--be careful of “non-value” terminology
• Cultural • Reorients focus on process not people• Challenges current thinking• May add cultural conflict
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ABM, cont.
• ABM Process• Obtain existing cost information• Determine the major processes• Identify process inputs and outputs• Determine the specific activities• Identify the resources used• Define output measures (what we measure)• Define performance measures (how we
measure it)• Assess performance through benchmarking• Brainstorm improvements
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Balanced Scorecard Analysis
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Balanced Scorecard Model
Financial Perspective
Customer Perspective
Internal BusinessProcess Perspective
Learning & GrowthPerspective
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Balanced Scorecard Components
• Financial Perspective• Customer Perspective• Internal Business Process
Perspective• Learning and Growth Perspective
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The Measures
• Approximately 5-7 per section• Link the measures…cause & effect• Include outcomes and drivers• Strategic measures become part of
the bal. scorecard; control system measures become “critical success factors” (or everyday measures)
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Features of a Good Balanced Scorecard
• It tells a story.• It helps communicate a
strategy.• It preserves a financial focus.• It provides for metric focus.• It highlights sub-optimal
tradeoffs.
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Balanced Scorecard Pitfalls• Failure to allow the scorecard to
evolve.• Emphasizing across the board
improvement.• Focus on only objective measures.• Failure to focus on both costs and
benefits.• Failure to include non-financial
measures in evaluating employees.