Bài giảng môn Quản trị kinh doanh - Chapter 5: Cost: the price of value creation

Chapter 5Cost: The Price of Value Creation1Learning ObjectivesDescribe the relationship between cost and value.Understand how costs affect the three profitability measures.Describe why costs are important in operations.State the dangers of using average costs.Explain why it is important to be able to assign operations costs.Explain the concepts of tracing and allocating costs.Define the components of product cost.Describe how cost reduction relates to productivity improvement.Explain the concepts of standards and variances.Compute usage, price, and total variances.Understand the difference between total cost and cost per unit.Conduct a breakeven analysis.2Cost versus PriceCostTieinessCost – A scarce resource given up in order to obtain a current or future benefit.Price – Amount of money a seller agrees to accept in return for something, like a product or service.3Paying for ValueCost includes all resource outlays over the life of the product or serviceThe cost is not necessarily monetaryIncreasing cost detracts from valueCost includes all resource outlays over the life of the product or service.While most value attributes enhance value, cost is almost always viewed as an overriding negative factor.4Price vs. Total Cost: Customer PerspectiveNon-Price dimensions of CostShipping/DistributionRepairs and maintenanceRelated expenditures (insurance, supplies, etc.)5Price vs. Total Cost: Customer PerspectiveNon-financial costsQuality, flexibility, response timeNon-financial costs are difficult to include in decision-makingThey are difficult to quantify In tradeoffs, quantifiable measures often winFirms struggle to incorporate non-monetary costs (and benefits) into decision-makingIgnoring them implicitly says they are zeroThe balanced scorecard (coming later) is an approach to include non-financial issues.6Profitability and Cost Net income is in the numerator of Profit Margin, Return on Assets, and Return on EquityNet Income = Net Sales - Cost of Goods Sold – Selling and Administrative Costs – Depreciation- Interest Paid – Taxes Reduced CostsHigher NetIncome GreaterProfitability7Types of CostsExpected costs: Forecasted payments for future benefits. Actual costs: Past payments for currently owned resources.Out-of-pocket costs: Cash payments made for resources.Product costs: Costs of resources used to make products.Period costs: Costs of resources used in nonproduction elements of a business.Total costs: Costs of all resources obtained in a particular period.8Average CostsCan be Great for comparing current costs to historic.Can be Great for making comparisons with competitors.Can be Dangerous because there is no “average” product or “average” customer.Can be Dangerous because they can lead to ignoring important details.9Costs and the Value ChainThe Value Chain is a model of the way processes are linked together. It identifies all of the parts of the supply chain that add value.All value is added through processes, but all costs are not.What is missing?Administrative support functions like accounting, legal services, computer services, personnel functions, etc.10All activities directly and indirectly generate costs.An activity must generate more value than cost, or it should be eliminatedMost businesses have a pretty good understanding of total costs (i.e., they know how much they spent last year)Costs and the Value Chain11Assigning Operations CostsDirect (value chain) and indirect cost generators need to be assigned and analyzedResource Cost: What the business spent on a particular resource 12Assigning Operations CostsCost object: an item for which costs are measured or assigned. 13Direct Tracing: Costs (e.g., direct labor & materials) are physically associated with a cost objectFor example: direct labor or direct materialsOr the link may be made by observationAssigning Operations Costs14Assigning Operations CostsDirect Tracing example:A product requires eight hours of labor to assembleIt uses $1,000 in materialsLabor costs are $100 per hourProduct Cost = $1,000 + (8 * $100) = $1,800 for direct labor and material15Assigning Operations CostsDriver Tracing – A resource (cost) driver is used to provide the link between the cost and the cost objectResource drivers measure demands placed on resources by activities and are used to assign costs of resources to activities16Assigning Operations CostsActivity drivers: Measure demands that cost objects place on activitiesActivity Drivers are used to assign the costs of associated activities to cost objects17Driver Tracing example:A company spends $50,000/month on Human Resources80% of HR time is spent hiring and training direct labor personnelThe plant consumes a total of 1600 direct labor hours/month (10 people * 40 hours/week * 4 weeks)Use Direct Labor hours as “Activity Driver” = $25 per hour ($40,000/1600 direct labor hours)Recall: 8 hours of direct labor per product = 8 * $25 = $200 in HR costProduct Cost = $1,800 for direct labor and material $200 for HR costs $2,000 total cost Assigning Operations Costs18Components of Product CostProduction costs: associated with actual production.Nonproduction costs: associated with selling and administration. Direct materials: materials that can be traced directly to the good or service being produced.Direct labor: labor that can be traced directly to the good or service being produced.Overhead: all other nondirect costs. 19Putting Cost Information to Work for Operations: Standards and Variances StandardsAre what should happen in terms of . . .Quantity (output or usage per unit of time)Price (price per unit)ActualsWhat actually got used in productionMay be more or less than standardVariance AnalysisThe comparison of standards to actuals in order to assess operating performance20Putting Cost Information to Work for Operations: Standards and Variances Example:Company produced units at a total cost of $23.14 per batchTheir standards tell them it should only have cost them $18.00 per batchWhat went wrong?Did they pay too much for material?? Or use too much material??21Variance Analysis – Materials Example 1Required information:Standard usage rate (standard quantity): how much do you expect to use of the resource?Example: 15 ounces per 50-gallon batchStandard price: How much do you expect to pay for the resource?Example: $1.20 per ounceActual usage rate (actual quantity): how much did you actually use of the resource?Example: 16.3 ounces per 50-gallon batchActual price: how much did you actually pay for the resource?Example: $1.42 per ounce22Variance Analysis – Materials Example 123Variance Analysis – Materials Example 2Same StandardsStandard Quantity - 15 ounces per 50-gallon batchStandard Price - $1.20 per ounceNew Actual Usage AssumptionsActual Quantity – 12 ounces per 50-gallon batchActual Price - $1.50 per ounce24Variance Analysis – Materials Example 2What is the Total Variance?(Actual Quant * Actual Price) – (Standard Quant * Standard Price)(12 * $1.50) – (15 * $1.20) = $18.00 - $18.00$0.00What is the Price Variance?(Actual Quant * Actual Price) – (Actual Quant * Standard Price)(12 * $1.50) – (12 * $1.20) = $18.00 - $14.40Overage of $3.60 per 50-gallon batch on priceWhat is the Usage Variance?(Actual Quant * Standard Price) – (Standard Quant. * Standard Price)(12 * $1.20) – (15 * $1.20) = $14.40 - $18.00 Underage of $3.60 per 50-gallon batch on materials25Variance Analysis – Materials Example 3Same StandardsStandard Quantity - 15 ounces per 50-gallon batchStandard Price - $1.20 per ounceNew Actual Usage AssumptionsActual Quantity – 12 ounces per 50-gallon batchActual Price - $1.40 per ounce26Variance Analysis – Materials Example 3What is the Total Variance?(Actual Quant * Actual Price) – (Standard Quant * Standard Price)(12 * $1.40) – (15 * $1.20) = $16.80 - $18.00Underage of $1.20 per 50-gallon batchWhat is the Price Variance?(Actual Quant * Actual Price) – (Actual Quant * Standard Price)(12 * $1.40) – (12 * $1.20) = $16.80 - $14.40Overage of $2.40 per 50-gallon batch on priceWhat is the Usage Variance?(Actual Quant * Standard Price) – (Standard Quant. * Standard Price)(12 * $1.20) – (15 * $1.20) = $14.40 - $18.00 Underage of $3.60 per 50-gallon batch on materials27Variance AnalysisHelps in determining where things did not go according to plan.Can be used for many kinds of resources, includingMaterialsLaborOverhead28Variance AnalysisWhen and how to update standards can be a big decisionLine managers may not want to update quantity standards if they are getting better (sandbagging)Detecting the variance is the first step, understanding them can be much more complicatedAre negative price variations due to poor practices or just generally rising prices?29Breakeven AnalysisBreakeven analysis is an analytical process that compares the fixed and variable costs of alternatives in order to identify the best alternative for a given volume of output.Fixed costs are costs that are not affected by volume.Variable costs are costs that increase or decrease as units produced increase or decrease.The total cost curves are assumed to be linear and can be created by using the basic formula for a line:y = a + bnWhere y is the total cost for producing n units, a is the fixed cost, and b is the variable cost per unit.30Breakeven Analysis ExampleInsert Exhibit 5.7Three alternatives:31Breakeven AnalysisInsert Exhibit 5.8WEEZL is the low-costalternative for volumesbelow 230,508.Market Probe is thelow-cost alternative for volumes between 230,508 and 387,097Prophecy is the low-costalternative for volumes greater than 387,09732Nonfinancial CostsSome resources are difficult to quantify. Examples: quality, flexibility, response time, etc. In tradeoffs, quantifiable measures often win.Balanced scorecard is an approach to include nonfinancial issues.33The Balanced Scorecard34