What’s The Opportunity Cost Of Bad Cost Information?

Let’s face it — the state of costing in almost all U.S. companies today is atrocious. It has not kept pace with advancements in technology or manufacturing.

Let’s face it — the state of costing in almost all U.S. companies today is atrocious. It has not kept pace with advancements in technology or manufacturing. The same outdated practices that were given birth to in manufacturing have been moving into other industries. Each industry considers itself so unique that synergies are not taken advantage of and the process starts anew, only to reach the same results. Advanced cost methodologies, which could provide the solutions, are considered too costly to implement — thanks in part to giant consulting firms and ERP companies. The Society of Cost Management was started two years ago to be part of the solution, and to reach out to other cost management professionals and to our customers to bring cost management into the 21st Century.

Our membership constituency consists of the practitioners, consultants, and academics who are dedicated to cost measurement, cost management and decision support.

The Society of Cost Management (SCM) is dedicated to increasing awareness of the vital role cost measurement and management plays in organizations by providing technical support for our constituency that will enhance their credibility and obtain management support, as well as recognizing their achievements, as they master the sound body of knowledge our organization provides.

The Society has recently initiated a New Body of Knowledge project to create a common cost and management accounting terminology. This is only the first step of many, but an important one in the effort to lead cost management in a new and better direction, and bring the profession up-to-date  with modern business practices. But we need input from our customers. You can help us and the future of your business by giving us input at info@costmgmt.org. What can we do now to get cost accounting on the right track, and what can we do to keep it there?

About 15 years ago, the professional association that had represented cost accountants for almost 100 years made a strategic move away from management accounting and toward strategic finance. While this move achieved the objective of enlarging the membership base, the cost management profession has suffered. While this isn’t solely to blame for the current poor state of cost management, it certainly was a contributing factor.

Another factor contributing to the lack of advancement in cost management was the increased visibility of accounting scandals, which brought more emphasis to the importance of financial statement preparation, analysis and auditing. All of the recent focus in the accounting world has been on the proper application of Generally Accepted Accounting Principles (GAAP) and ethical compliance. Financial accountants are those that focus on preparation and analysis of financial statements and auditing, while management accounting focuses on internal decision-making.

GAAP is critical in this age of increased litigation and accounting irregularities, but compliance does not make a company profitable. If anything, the increased scrutiny has only increased costs (Does anyone question that the compliance cost of the Sarbanes-Oxley Act isn’t staggering?). Isn’t the very best cost information at least equally critical? This slump in the economy, which is showing no sign of improvement, only highlights this need, yet managers seem unwilling to demand improvement. Or have you just given up?

Many in the accounting community believe that the pendulum is about to swing back towards management accounting, and we want to help cost accountants prepare for their future. The Society of Management Accounting was created to fill this niche and help cost accounting catch up to the present and prepare us for the future. We need your help in being part of the solution.

Most businesses use standard cost, a methodology that was created about 100 years ago for manufacturing companies whose primary cost was labor. Many of the businesses that use standard cost are not maintaining it to receive even marginally reliable information. With the changes in cost structures that have occurred over the past century, costing systems have not kept pace. They, along with most ERP systems on the market today, are made to feed financial statements ,not to provide the valuable cost information that managers need. In today’s hard business environment, shouldn’t businesses be relying on the best actionable cost information available? Herein lies our dilemma — most are not.

The good news is that cost effective, advanced cost methods are currently available. The bad news is that companies seem content with their marginally useful, but GAAP-compliant information. A couple examples of these methods are:

  • Activity Based Costing (ABC), a methodology that grew up in the ‘70s with the promise of providing businesses with better cost information. ABC provides a much more accurate methodology of applying overhead cost to direct, but was rapidly identified as a  “too costly option” — what is the cost of not having better information? If you contact your financial auditors or ERP consultants and ask them how much it would cost to implement ABC, you will likely receive an exorbitant estimate and come to the same conclusion, but if you check out Activity-Based Costing: Making It Work for Small and Mid-Sized Companies (Wiley Cost Management Series) by Douglas T. Hicks, you will discover how you might implement a low-cost and simple solution.
  • Another alternative is Explicit Cost Dynamics: An Alternative to Activity-Based Costing by Reginald Tomas Yu-Lee. Explicit Cost Dynamics was developed by Reginald Tomas Yu Lee, who is a manufacturing engineer, not an accountant. Reginald’s approach is to look at direct and overhead costs independently. This is definitely not GAAP-compliant, but it’s a good way to analyze cost and capacity.

Michael Fournier is a Sr. Cost Accountant at a small aerospace company in Orange County, Calif.

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