Costcontrol in operations management


Cost may be defined as resources sacrificed or foregone to achieve a specific objective. Cost signifies an expenditure or monetary outlay whether it is actual or committed to secure some benefits. When the cost from which the benefits are derived and sometimes failed to derive any benefits are recognized and recorded. It is known as “expired cost� or “expense� e.g. payment of wages to a worker. When the cost is recorded before the sufficient benefits are derived, it is known as “deferred cost� e.g. purchase of a machine with a longer operating life. The deferred cost becomes expired cost in course of time.

Costing is a technique and a process of determining the cost of doing something, e.g. the cost of manufacturing an article, rendering a service or performing a function.

Cost objective:
The objects of costing are always activities. The article manufactured or service rendered or function performed is known as object of costing. Cost objective is defined as, “any activity for which separate measurement of cost is desired�.

Cost control is attained through the guidance and regulation by the executive action on those who are responsible for the incurrence of expenditure in the course of business operations. Cost control presupposes the element wise cost ascertainment. The measures of cost control are sensible only when one knows in advance what the cost “should be� for a particular unit of output.

Similarly, cost of production is the sum of various elements of cost like direct materials, direct labor, overheads etc. The element-wise cost estimation helps the management in locating the major areas of inefficiencies and to institute preventive, corrective and at times punitive actions.

Steps in cost control:

Cost control is an important executive function. Effective cost control can be attained successfully with the help of the following steps:

1. To set up the target:
The expense target should be set in advance for a specific period. This is known as budget. Proper budgeting should be done for all important spending centers. They should be related to the production targets. Meticulous care should be taken while fixing the targets for the variable expenses.

2. To measure the actual costs:
The detailed information about the actual costs should be collected on a regular basis. The actual costs incurred should be measured on the same basis as the targets; e.g. if the targets are set on weekly basis, the actual data should also be made available on the weekly basis. Moreover, the actual data must be made available frequently otherwise it is likely that the time lag might make it difficult to institute any prompt corrective action.

3. To compare the actual costs with the targets:
The costs incurred are compared with the targets with a view to ascertain any discrepancy between the two. Such discrepancies are known as deviations or variances. It is a simple arithmetical exercise and can be presented as under:

V = T- A

Where T indicates target, A indicates actual, and V indicates variance. The variances are expressed as favorable or (+) and averse or (-).

4. To analyze the variances:
It is necessary to analyze the variance to find out the facts behind the figures. The discrepancy between the target and actual is due to some reasons. The variances are analyzed to find out the reasons for the difference; e.g. if the direct material cost per unit is Rs. 2.10 instead of the targeted Rs. 2.00, it is essential to find out whether this extra cost of 10 paise per unit is due to price fluctuation, inefficiency in purchasing, usage of wrong material, excessive usage of material with greater degree of wastage, incorrect setting up of machine producing more defectives etc. Unless the specific cause for the higher cost is identified, it will not be possible for the executive to institute any guiding or regulating action.

5. To locate the responsibilities for unfavorable variances:
The adverse variances arise due to either controllable or uncontrollable factors. The responsibilities for the controllable factors should be located properly and should be treated severely because they indicate lapses, omissions, negligence or carelessness e.g. In the above example, high direct material cost resulting from the excessive usage of material is a serious matter to be attended to. Uncontrolled factors are beyond the control of management. However, the strategic decision may mitigate the severity of the uncontrollable factors.

6. To take action for the correction of variances:
The variances should be detected as early as possible and they should be corrected immediately. This is done through the preventive and corrective action.