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1、Author CollinsQian Reviewer BobArmacost bc CostAccounting March1998 Copyright 1998Bain Company Inc 2 CU7122397ECA ImportanceofcostallocationClientexampleDefinitionsdirectvs indirect fixedvs variablebreakevenvolumeExercisescostallocationbreakevenvolumeKeytakeaways Agenda 3 CU7122397ECA Importanceofco
2、stallocationClientexampleDefinitionsdirectvs indirect fixedvs variablebreakevenvolumeExercisescostallocationbreakevenvolumeKeytakeaways Agenda 4 CU7122397ECA Whichproductsareprofitable Whatisthebreakevenvolumebyproduct Whichproductsrequirecostreductionefforts Howshouldwepriceourproducts Whichcustome
3、rsegmentsaremostprofitable Itiscriticaltohaveaccurateandcompletecostdatatomakesoundstrategicandtacticalmanagementdecisions WhyAllocateCosts 5 CU7122397ECA Historically only20 ofmanufacturingcostswere shared acrossproductlines Today typically50 ofcostsare shared acrossproducts Sharedcostsmightinclude
4、rent freight andadministrativecosts Forsimplicity accountingtrackscostsbyfunction e g materials salaries benefits ratherthanbytheactivitydevotedtoproductlines e g maintenanceofproductA freightforproductB Forcoststhatarenoteasilyassignedtoindividualproductlines companiesnormallyselectthemostconvenien
5、twaytoassignthem notnecessarilythebestwayforexample companiestendtoallocaterentcostsbasedonsomethingthatiseasytomeasure suchasdirectlabordollarsforeachproductline Abetterallocationmethod however mightbetheactualspaceresourcedemandsofeachproductline Mostcompanieslackaccuratecostdatabyproduct WhyCosts
6、AreOftenNotAllocatedCorrectly 6 CU7122397ECA ImportanceofcostallocationClientexampleDefinitionsdirectvs indirect fixedvs variablebreakevenvolumeExercisescostallocationbreakevenvolumeKeytakeaways Agenda 7 CU7122397ECA MiddleAmericaManufacturing aBainclient believedthatallthreeofitsproductlineswerepro
7、fitable Returnonsales 10 0 2 4 1 6 Sales 250MM 100MM 75MM MiddleAmericaManufacturing EstimatedProfitability 8 CU7122397ECA Afterathoroughevaluation theBainteamfoundthat 8 0MMincostshadbeenallocatedincorrectlyamongthethreeproducts MiddleAmericaManufacturing CostAllocation 9 CU7122397ECA TheBainteamal
8、sodeterminedthatanadditional 18 8MMincostsshouldbeallocatedtothethreeproducts MiddleAmericaManufacturing AdditionalCosts 10 CU7122397ECA Bain sanalysisindicatedthatbothbicyclesandwalkingmowerswereunprofitable MiddleAmericathenbegantoinvestigatewhethertoexitorfixthesetwobusinesses Returnonsales 7 2 3
9、 0 6 9 Sales 250MM 100MM 75MM MiddleAmericaManufacturing ActualProfitability 11 CU7122397ECA ImportanceofcostallocationClientexampleDefinitionsdirectvs indirect fixedvs variablebreakevenvolumeExercisescostallocationbreakevenvolumeKeytakeaways Agenda 12 CU7122397ECA Definitions Coststhatdonotvarydire
10、ctlywithchangesinoutput Coststhatvarydirectlywithchangesinoutput Costsincurreddirectlyintheproductionordeliveryofafirm sproductorservice Thesecostscaneasilybeidentifiedwith orassignedto aparticularproduct Costsgenerallyincurredbythefirmoutsideoftheproductionprocess Thesecostscannoteasilybeidentified
11、with orassignedto aparticularproduct Allcostscanbebrokendownalongtwodimensions Fixed Variable Direct Indirect vs vs Examples EquipmentdepreciationRentAdvertising RawmaterialsProductionlaborDeliverycosts DirectlaborDedicatedequipmentRawmaterials SG AOfficesuppliesPlantmanager Ruleofthumb Ifaparticula
12、rcostchangeswhenproductionincreasesordecreases thecostisvariable Ifaparticularcost goesaway whenaproductisdroppedfromtheproductline thecostisdirect TypesofCosts 13 CU7122397ECA Allcostsarevariableoveraverylongtimehorizon i e forverylargeincreasesinvolume Coststorunandmaintainacomputersystemthattrack
13、sproductordersareclearlyfixedforasmallchangeinvolume suchasthatassociatedwithaslightlybusymonth However theyarevariableforalargechangeinvolume suchasthatassociatedwithanewplant Mostcostsaresemi variable i e theytendtobeaddedinlumpsasvolumeincreases Supervisorylabortendstobeconsideredfixedbecauseitis
14、unlikelythatadditionalsupervisorswouldhavetobeaddedtohandleasmallincrease say10 involume Buttheworkforcecanonlyincreasesomuchbeforeanadditionalsupervisorisneeded Intheory productionlaborisvariable However inmanyclientsituations restraintsplacedbyunionsanddifficultyinhiringandfiringpeopleinresponseto
15、short termvolumefluctuationsmakeit inpractice semi variable Definingtheappropriatetimehorizonfortheanalysisisimportant Ameaningfulanalysiswillisolatethefixedcostandvariablecomponentsofaparticularcost Fixedvs Variable 14 CU7122397ECA Thefollowingisanillustrationofcostbehaviorforfixed semi variable an
16、dvariablecosts Cost Dollars Volume Units Variablecosts Semi variablecosts Fixedcosts Fixedvs Variable Illustration 15 CU7122397ECA Itisusefultoknowthefollowingtermswhendoingcostanalysis Simplifiedincomestatement VariableCost GrossMargin FixedCost OperatingMargin Revenue PriceperUnitxVolume Grossmarginisalsocalled GrossProfit or ContributionMargin OperatingMarginisalsocalled OperatingProfit Revenue IncomeStatementTerms 16 CU7122397ECA Breakevenvolumeisthevolumeatwhichthecompanycoversitsfixedcosts
