The Important Areas of Cost Management System are explained below:
(a) Activity Based Costing (ABC):
ABC is a natural outgrowth of today’s competitive and complex environment. ABC provides a closer approximation of the cost of a product, than provided by the traditional volume based costing method.
The main principle of Activity Based costing states that activities cause costs to control costs, the activities must be controlled. Under ABC of overheads, the activities are identified, the expenses related to each activity are clubbed together to get activity wise expenses a cost driver for each activity is selected and finally the cost of the product is worked out.
Traditional cost accounting measures what are costs to do a task, whereas ABC records the cost of not doing also. The system monitors activities more closely, relates costs to activities and bring in Cost Effectiveness. This System of costing makes a great impact on the service sector also.
ABC is primary source of information for Activity Based Management (ABM). ABM is basically a top down approach, wherein the top management exploits the information derived from ABC and passes the decision- to the operational level towards continuous improvement and excellence.
(b) Target Costing:
As customers become more demanding and seek great value importance of effective cost management becomes even more. Much of Indian manufacturing in the past was occurring in a cost – plus environment, aided by extensive government regulations.
But in the global market the customer will dictate the price and features that he will be looking for. Target costing is a new attempt in which cost is the difference between the price expectation of the customers and margin expectations of the corporation entities.
Management Accountant will have to work closely with design and engineering personnel to achieve this target.
(c) Total Quality Management (TQM):
There is no fixed standard for quality, as it is constantly undergoing improvement and up gradation. Quality at the lowest possible cost is the basic foundation upon which economic progress depends as such it has become the slogan of modem economics.
Total Quality Management (TQM) is a business Philosophy that seeks to instill in all personnel of an organisation a collective responsibility for maintaining impeccable quality standards. The TQM approach talks of quality not merely at the final stage of the external customer but essentially at every stage in the process.
TQM get its formal recognition by way of ISO 9000. The new avenue to quality ISO 9000 is basically an audit system. It audits a company’s total culture where obviously, the implication of cost at every phase with measurement of matching benefits is an essential item to be considered, for which cost and Management Accountant have a great role to play.
Realising the importance of quality management in performance management, the society of management accountants at Canada has issued a guideline on management accounting practice.
Continuous quality improvement is the few basis for building competitive advantage in an industrialised economy. The US experience demonstrates that individual companies, even whole industries using traditional financial controls, have lost to competitors organised around continuous improvement at strategic and operating levels.
The management have now realised that the cost of improving quality is much smaller when compared to the cost of not having quality systems. The success of many major Japanese companies is grass rooted in their long term commitment to the improvement of quality.
For the implementation on of TQM, a company will have to spend a huge amount in the initial years, but the benefits of TQM are substantial and will justify its implementation.
The major benefit of TQM comes in substantial reduction in the cost of quality and an increase in the level of quality. ‘The cost of prevention and appraisal are described as cost of conformance and the cost of internal and external failure are taken as cost of nonconformance.
The cost of quality is the sum totals of these two. There is an optimum level at which total cost is lowest. Strategic Cost Management and monitoring its ramifications in every aspect of an enterprise is a must for assuring such a quality culture.
(d) Bench Marking:
The increased global competition calls for special competence of increased cost efficiency for a company for its very survival. ‘Bench marking’ is a new technique, which will help a company to achieve this comparative cost efficiency.
Bench marking may be defined as a continuous information sharing process, adopted by an organisation internally and externally to identify its strong or weak points against the toughest competitors, to improve the activities carried out and services provided by it.
A benchmark amount is the best level of performance that can be found inside or outside the organisation. The benchmarking exercise has five essential steps-identifying key variables for bench marking, selective comparative companies, gathering required ‘data’, evaluating and interpreting the performance gap and improving the performance to achieve world class operations.
It is to be treated as a continuous learning process and it should result in innovations. In order to effectively benchmark, it is vital to determine the real quality difference and comparison must be made in at least following essential areas:
(i) Cost of product/service,
(ii) Cycle line or productivity,
(iii) Standards of performance achieved, and
Proactive benchmarking is the need of the hour which will monitor that- the input cost do not blunt the competitive edge and thereby makes a company fit to be a global player, to beat the best competitor in the world.