Prof. Dr. Filip Roodhooft

I. Management Accounting
II. Traditional costing systems
III. Activity Based Costing
IV. Total Cost of Ownership
V. Customer Profitability Analysis
VI. Target Costing

Management accounting
= system of reporting that enables managers at different levels of the organization to make better decisions
- Measurement
- Analysis
- Interpretation
- Communication
- Planning and control
Different from financial accounting.
Important interaction with strategy.

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Key success factors
• Cost
• Quality
• Time
• Innovation
Customer satisfaction
Total value chain analysis
Dual internal
/external focus
Continuous improvement


Support functions
Research Planning Production Marketing Distribution and and development design
Core activities

Structural and executional cost drivers


Structural cost drivers:
– Scale
– Scope
– Experience
– Technology
– Complexity
Executional cost drivers:
– Employee participation
– Total quality management
– Excess capacity
– Plant lay-out
– Product configuration
– Supplier relationships

Value Chain activities and cost drivers
Structural activity
Manage location
Integrate vertically
Integrate horizontally
Manage technology
Manage complexity of products
Manage institutional structure
Gain experience, learn and manage skill sets
Possible cost drivers
Favorable locations, number of locations
Number of industry segments in which the company is present
Sales volume in units or dollars, number of different customers
Types of process technologies
Number of different models
Debt level, debt capacity, favorable tax status
Cumulative number of units sold, cumulative number of individual sales
Procedural activity
Providing quality
Managing employees
Managing capacity
Manage efficiency
Manage product complexity
Managing plant layout
Operational activities
Production
Inbound logistics
Quality
Possible cost drivers
Employee training level, return merchandise rates, customer satisfaction ratings
Employee morale level, turnover rates, a measure of the span of command
Percentage of capacity utilization, number of production or service facilities
Lead time from product concept to production, R&D cost compared to competitor
Number of parts per product, number of separate operations, flexibility of the production process
Throughput time, ability to convert from one product/service to another
Possible cost drivers
Direct labor hours, set-ups, machine hours
Purchase orders, number of parts
Number of inspections


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Stage 1
– Inadequate for financial reporting
Stage 2
– Financial reporting-driven
Stage 3
– Managerial relevant - stand-alone
Stage 4
– Integrated system

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
Activity Based Costing en Management
Customer Profitability Analysis
Total Cost of Ownership
Vertical (de)integration
Quality costs
Balanced Scorecard
Benchmarking
Target Costing
Life cycle costing
Economic value added


– identify direct costs
– estimate price per unit
– estimate quantity used
– multiply price by quantity
– sum up direct costs


– identify indirect costs and cost pools
– identify appropriate first and second stage cost drivers
– estimate cost driver rate
– estimate quantity of cost driver used
– multiply cost driver rates by quantity
– sum up indirect costs


– Big tables: 800
» sold 650 (price per unit 540)
» inventory 150
– Medium tables: 1,500
» sold 1,300 (price per unit 520)
» inventory 200
– Small tables: 2,000
» sold 1,750 (price per unit 500)
» inventory 250

 Costs (actual costing)
– Materials cost
– Glue and nails
– Direct labour
– Supervision
– Depreciation
– Electricity
– Fuel
740,000
2,150
966,000
120,000
70,000
4,000
4,800

 Costing system
– direct costs
» materials cost
» direct labour
– materials (kilogram)
» BT 3,600
» MT 4,500
» ST 3,000
– direct labour (hours)
» BT 3,200
» MT
9,000
» ST 20,000

 Costing system
– indirect costs
» cost pool 1:
 glue and nails/ depreciation
 allocation base: materials in kilogram
» cost pool 2:
 supervision/ electricity/ fuel
 allocation base: direct labour hours

COSTS TOTAL COST
CP1 materials cost glue and nails
740.000
2.150
wages direct labor 966.000
supervision depreciation electricity fuel
120000
70.000
4.000
4.800
2.150
70.000
________
72.150
POOLS
CP2
120.000
4.000
4.800
________
128.800
COST OBJECTS
BT MT
240.000
300.000
ST
200.000
96.000
23.400
12.800
372.200
270.000
29.250
36.000
635.250
600.000
19.500
80.000
899.500
COSTS PER UNIT
BIG TABLE
MEDIUM TABLE
SMALL TABLE
372.200 / 800 = 465,25
635.250 / 1.500 = 423,5
899.500 / 2.000 = 449,75


Results
– cost per unit
» BT
465.25
» MT
» ST
423.5
449.75
– profitability cost objects
» BT
48,587.5
» MT
» ST
» total
125,450
87,937.5
261,975

 Cost objects
– product 1: 20 units
– product 2: 40 units
 Costs (standards)
– direct materials (£15 per kilogram)
– direct labor (£10 per hour)
– supervision
– cooling fluid
– electricity
– rags

 Costs

 Costs

 Costing system

 Results
– direct costs
» P1 125
» P2 145
– indirect costs
» P1 75
» P2 80
– total costs
» P1 200
» P2 225

1. Introduction
2. Cost structure
3. Example
4. Need for a new system
5. Usage versus Spending
6. Activity hierarchy
7. Implementation
8. Optimal costing systems
9. Activity Based Management


A B
Blue pens
Other pens
Direct Labor
Direct Material
1.000.000
0
0,1
100.000
900.000
0,1
0,3 0,3
Overhead 75.000 250.000
Cost blue A = 0,475 EUR
Cost blue B = 0,65 EUR
(allocation base = number of pieces)

Overhead
Direct costs
Overhead
Direct costs

 Activity Based Costing
DC
IC CP
AB
DC
IC ACT
RD
Activities (ACT)
- Resource drivers (RD)
- Activity drivers (AD)
- Cost objects (CO)
AB
AD
CO
CO

Units
Direct Material/ unit
Direct Labour/ unit
Labor hours
Machine hours
Batches
Sales orders
Purchase orders
A
20,000
25
70
2
1
2
10
20
Other indirect costs (IC)
Indirect wages
Depreciation
Indirect materials
330,000
850,000
170,000
1,350,000
B
15,000
23
105
3
2
4
18
15
C
5,000
20
35
1
5
6
20
25

 Cost price per unit a) Traditional system
A B C
Direct material + direct labour 25 + 70 23 + 105 20 + 35
Indirect Costs 30 45 15
TOTAL 125 173 70 b) ABC
Activities
Reception
Set-ups
Assembly
Packing
Activity driver purchase orders number of set-ups machine-hours sales orders

Indirect wages Depreciation Indirect materials
Reception Set-up Assembly
Set-ups Machine-hours
Packing
Purchase orders Sales orders
Direct materials
PRODUCTS
Direct labor

Distribution of indirect costs over activities using resource drivers
Indirect wages
Reception 90,000
Set-up 60,000
Assembly
Packing
TOTAL
20,000
60,000
330,000
Depreciation
20,000
150,000
580,000
100,000
850,000
Indirect materials
Total
10,000
30,000
120,000
240,000
50,000
80,000
750,000
240,000
170,000 1,350,000
Distribution of cost of activities over cost objects using activity drivers
Direct material + direct labour
Reception
Set-up
Assembly
Packing
TOTAL
A
25 + 70
2
2
10
2.5
111.5
B
23 + 105
2
5.33
20
6
161.33
C
20 + 35
10
24
50
20
159

1.
Products that are very difficult to produce are reported to be very profitable even though they are not premium priced.
2. Profit margins cannot be easily explained.
3. Some products that are not sold by competitors have high reported margins.
4. The results of bids are difficult to explain.
5. The competition’s high-volume products are priced at apparently unrealistically low levels.
6. Vendor bids for parts are considerably lower than expected.

7. Customers ignore price increases, even when there is no corresponding increase in costs.
8. Only direct labor hours (or dollars) are used to allocate overhead from cost pools to the product.
9. Only volume-related allocation bases are used to allocate overhead from cost pools to products
10. Cost pools are too large and contain machines that have very different overhead cost structures.
11. The cost of marketing and delivering the product varies dramatically by distribution channel, and yet the cost accounting system effectively ignores marketing costs.

Cost of resources supplied
=
Cost of resources used
+
Cost of unused capacity activity = handle customer order budgeted cost = 280,000 driver = number of orders expected number = 4,000 practical capacity = 5,000 cost per order = 56

Product-Line
Sustaining
Brand Sustaining
Channel Sustaining
Customer Sustaining
Product Sustaining Order Related
Batch
Unit
Source: Kaplan & Cooper (1997), ‘Cost and Effect’, Harvard Business School Press, p.89

 Steps
1. Develop activity dictionary
2. Determine how much the organization is spending on each of its activities
– resource drivers
– activity attributes
– hierarchy of activities
3. Identify cost objects
4. Determine cost of cost objects using activity drivers transaction drivers duration drivers intensity drivers

1. Individual resistance due to fear
2. Departmental resistance to change
3. People’s resistance to changing their beliefs and value systems
4. Environmental barriers to change
5. Failure to formalize plans to act on the data provided by the ABM system
6. Lack of clear, concise, and easily understandable reports
7. Problems with reporting frequency
8. ABM is not implemented in a profit centre
9. Company is too profitable
10. System is too costly to maintain

 Turning to ABC
 Internal resistance
 Getting acceptance
 Training the workforce
 The rollout
 Final integration

High
Total
Cost
Cost of errors
Cost of
Measurement
Low
Low
(Stage II cost system)
Optimal Cost
System
(Stage III ABC system)
Accuracy
Source: Kaplan & Cooper (1997), ‘Cost and Effect’, Harvard Business School Press, p.104
High

Operational ABM
Doing Things Right
Activity Based Costing
Strategic ABM
Doing the Right Things
Performing activities more efficiently
•
Activity management
• Business process reengineering
• Total quality
• Performance measurement
Choosing the activities we should perform
• Product design
• Product-line and customer mix
• Supplier relationships
• Customer relationships
Pricing, Order size,
Delivery, Packaging
• Market segmentation
• Distribution channels
Source: Kaplan & Cooper (1997), ‘Cost and Effect’, Harvard Business School Press, p.4

Dayton: Value-Added decision rankings
Value-added
VA1: Is the activity of value to external customer?
VA2: Is the activity required to meet corporate requirements?
Nonvalue-added
VA3: Is the activity required for sound business practices?
VA4: Is the activity of value to internal customer?
VA5: Is the activity a waste?

Dayton: Activity-Based Cost reduction decision model
Activity based on impact upon main
(magnitude frequency )
Is the activity VA1 or
VA2?
no yes
No immediate opportunity, but review during the next no
Can activity be improved no yes
Can the frequency be reduced?
yes Is the activity
VA3 or VA4?
yes no
Improve by combination, training, scheduling, integration
Reduce frequency/ eliminate
Eliminate

1. Facts and issues
2. Possible improvements
3. Shell’s vision
4. Value Chain
5. Criteria of supplier selection
6. Existing models for supplier selection
7. Definition of the Total Cost of Ownership
8. Examples of Cost Elements
9. Approach
10. Flexible vs. committed resources
11. Hierarchy of activities
12. Use

FACTS
 External purchases are a substantial expenditure: 50%-60% of total costs
 Outsourcing is important
THEORY AND PRACTICE

Simple and inaccurate decision models in purchasing

Major improvements are possible
ISSUES
Minimise total cost of ownership

Supplier rationalisation

Selection of suppliers

Improvements: at supplier (external) and purchasing (internal) company

Dynamic perspective

Purchasing strategy

5% DECREASE IN TCO
Sales
External purchases
Other variable costs
Fixed costs
Profit
100
60
10
20
10
10% INCREASE IN SALES
Sales
External purchases
Other variable costs
Fixed costs
Profit
100
60
10
20
10
100
57
10
20
13
110
66
11
20
13

“For many years procurement has been an undervalued activity in its contribution to corporate performance improvement and value for money management. Inadequate planning, poor communication between departments involved in the procurement of materials and equipment and weak performance measurement have resulted in delays and compromise on requested specifications. The acceptance of total procurement as a business process that embraces all disciplines involved in the activities of the operating companies directly addresses these issues.…
Procurement covers the series of activities which need to be performed to acquire and deliver to a user an item or a material or a service. It covers the whole cycle of activities from conception of the need, through designing, purchasing, storage and delivery to the user, monitoring and feeding back operational experience and ultimately disposal…
It therefore follows that procurement does not lie within the domain of one department or discipline but is a process which requires inter-disciplinary co-ordination....”
Source: Procurement Business Strategy, Shell International Oil Company 1991

INFRASTRUCTURE ACTIVITIES
Transactions Financial Mgmt. Business Plan. Treasury/Risk
Processing & Reporting &Analysis Mgmt.
MIS (Production/
Sales)
Technology Research, Development and Design
Human Resource Management and Development
Purchasing
Inventory
Production Warehousing Sales/ Customer
& Distribution Marketing Service
Holding,
Materials
Handling
The supplier’s performance influences the activities in the value chain of the company

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Net price
Quality
Customer services
Delivery
Geographic location
Financial position
Production facilities
Amount of past business
Technical capability
Management
Future purchases
Communication systems


Operational controls
Position in the industry
 Labor relations record
 Attitude
 Desire for your business
 Warranties and claims policies
 Packaging


Impression
Aids to the purchasing function
 Compliance with your procedures
 Performance history

quality price on time delivery delivered amount administration
35%
25%
15%
15%
10%
S1 S2 S3
= weighted point plan
+ other models price only even more subjective

QUALITY
Cost of inspections
Cost of returns (labour, paperwork, logistics, etc.)
Cost of line fallout
Cost to train supplier in quality methods
Cost of reworks
Taguchi cost function
DELIVERY
Cost of early or late orders
Transportation costs
Cost of expediting
Open/back orders due to partial shipment
CUSTOMER SERVICES
Delays due to slow response to problems
Cost of adapting company system to supplier
Cost of extra inventory due to unreliability
Savings from supplier engineering support
Time spent straightening out problem
PRICE OR COST
Price paid
Terms like quantity discounts
Cost reduction due to process improvements

TOTAL COST OF OWNERSHIP MATRIX
The concept of the TCO was merged with the ABC cost drivers concept and the cash/non cash aspects of the cost elements .
Cash
Acquisition
Costs linked to
P/S

Sales discount
Costs linked to the O
Reception
Costs linked to
P/S
Costs linked to the O
Possession
Costs linked to
P/S
Costs linked to the O
Utilization
Costs linked to
P/S
Costs linked to the O
Elimination
Costs linked to
P/S
Costs linked to the O
Supplier Non cash level costs
 Supplier quotation cost
 Contract cost
 Supplier follow-up cost
 Supplier change cost
Other costs
 Other general supplier level costs
 Other USP  Other USO  Other ESP  Other ESO Other
Cash
Order level costs
Non cash
 Other ASP  Other ASO
 Payment delay
 Order cost
 Other RSP  Other RSO
 Transportation cost
 Invoicing cost

Quantitative reception cost
 Qualitative reception cost
 Litigation cost
Other

Other AOP

Other AOO
Cash
Unit level
Non cash costs
 Price
 Price evolution
 Product discounts
 Service cost
 Testing cost

Other ROP

Other ROO
 Inventory cost
 Other general order level cost
 Other UOP  Other UOO
 Consumption
 Intrinsic efficiency
 Replacement cost
 Costs linked to production failure

Costs linked to product failure
 Maintenance

Installation cost
 Cost of quality control

Cost of personnel training

Cost of adaptations
 Other UUP
 Other UUO

 Waste valorisation

Other EOP
Other EUP
 Other EOO
 Other EUO
 Other general unit level costs
Other
 Other AUP
 Other AUO  Other RUP  Other RUO  Other PUP  Other PUO

Current Resources
Current Activities
Current Suppliers
Model
Future Resources
Future Activities
Future Suppliers

FLEXIBLE RESOURCES lead to flexible costs
= resources for which no capacity is defined since adjustment is always possible
– external purchases
– temporary labour
– electricity no capacity problem
COMMITTED RESOURCES lead to committed costs
= resources for which capacity is defined since they are acquired in advance of when the activity is done
– buildings and machinery
– personnel
– computer and telecommunication capacity problem reduction only after reengineering exercise

SUPPLIER LEVEL cost of dedicated purchasing manager for suppliers additional R&D cost due to using suppliers
ORDER LEVEL reception cost per order invoice cost per order transportation cost per order order cost per order
UNIT LEVEL set up cost inventory holding costs price

= PURCHASING STRATEGY ON THE BASIS OF ALL TCO
ELEMENTS
Supplier selection (mostly reduction) + evaluation
Negotiations
Process improvements buying firm selling firm between organisations (cfr. partnerships)
Budgets + budget control
Buyers work following the same philosophy
Sensitivity
Thinking process on current decisions
Makes purchasing objective situation of purchaser
Teamwork throughout the whole company

1. Strategic and Operational Aspects
2. Essentials
3. Mathematical decision model
4. Total Cost of Ownership Matrix
5. Methodology
6. Heating Electrode Case
7. Ball Bearings Case
8. Conclusion

STRATEGIC ASPECT
Supplier choice is strategic, long term
OPERATIONAL ASPECT
Costs are incurred by working with suppliers day to day
CONSEQUENTLY
For supplier selection, we need a tool that models the operational aspect of the problem to yield the strategic insights

1
January
2 3 4 5
February
6 7 8
59 62 12 8 82 36 33 68
Supplier I
Product J
Period K
S
JK

1
D
JK
K
…
48
Inventory
December
49 50 51 52
31 17 5 7
X
IJK
Amount purchased
S
JK

1

X
IJK
Y
IK


Z
I

I
M
IJ
X
IJK
Y
IK

D
JK

S
JK unit level order level s upplier
MIN

I
G
I
Z
I

I

, K
F
IK
Y
IK

I

, J , K
C
IJK
X
IJK

J

, K
H
JK
S
JK level

Objective: Minimisation of the Total Cost of Ownership under constraints
Min (slc + olc + ulc)
SUPPLIER LEVEL COSTS ORDER LEVEL COSTS
When a supplier is used

Quality audit

Follow-up

R&D

Service

Etc.
When an order is placed

Receipt

Invoice

Transport

Order

Etc.
UNIT LEVEL COST CONSTRAINTS





Price
Inventory
Efficiency
Waste valorisation
Etc.

Lot Size

Safety stock

Maximum stock

Number of suppliers

Market shares

Production capacity

Etc.
Description of the problem
Description of the
Total Cost of Ownership
Ordering over Time
Differentiation among Suppliers

Selection of a combination of suppliers

Minimisation of the Total Cost of Ownership

Dynamic process

Problem mainly:

Multi suppliers

Multi products

Multi periods

The concept of the TCO was merged with the ABC cost drivers concept and the cash/non cash aspects of the cost elements.
Acquisition
Costs linked to
P/S

Sales discount
Costs linked to the O
Cash
Reception
Costs linked to
P/S
Costs linked to the O
Possession
Costs linked to
P/S
Costs linked to the O
Utilization
Costs linked to
P/S
Costs linked to the O
Elimination
Costs linked to
P/S
Costs linked to the O
Other costs
 Other general supplier level costs
Supplier Non cash level costs
 Supplier quotation cost
 Contract cost
 Supplier follow-up cost
 Supplier change cost
 Other USP  Other USO  Other ESP  Other ESO Other
Cash
Order level costs
Non cash
 Other ASP  Other ASO
 Payment delay
 Order cost
 Other RSP  Other RSO
 Transportation cost
 Invoicing cost

Quantitative reception cost
 Qualitative reception cost
 Litigation cost
Other

Other AOP

Other AOO
Cash
Unit level
Non cash costs
 Price
 Price evolution
 Product discounts
 Service cost
 Testing cost

Other ROP

Other ROO
 Inventory cost
 Other general order level cost
 Other UOP  Other UOO
 Consumption
 Intrinsic efficiency
 Replacement cost
 Costs linked to production failure

Costs linked to product failure
 Maintenance

Installation cost
 Cost of quality control

Cost of personnel training

Cost of adaptations
 Other UUP
 Other UUO

 Waste valorisation

Other EOP
Other EUP
 Other EOO
 Other EUO
 Other general unit level costs
Other
 Other AUP
 Other AUO  Other RUP  Other RUO  Other PUP  Other PUO

Phase 1
Preparation of the business case
Phase 2
Mercury
Lindo
Phase 3
Analysis of the results

Determination of the objectives of the business case

Determination of the optimisation scenarios

Determination of the cost structure of the product group

Preparation of the input data

Validation of the data
Access
(runtime)
For each optimisation scenario :

Formatting of the business case

Input of the data

Solving
For each optimisation scenario :

Analysis of the output

Determination of a new purchase strategy

File management

Carbon
Vacuum
Heating
Electrod e
Liquid
Steel
DESCRIPTION

After steel has been produced in the blast furnaces it is collected in a recipient and circulated in vacuum reducing its carbon content, homogenising its composition

Heating electrodes provides constant high temperature, the steel is not cooled off too much too quickly

Long cylindrical carbon rods of 2 M length, 80 mm diameter

Looses its carbon content during use

When fully consumed it is replaced by a new one
ISSUE
 Usage duration and failure rate are key determinants of the electrodes’ quality and varies among suppliers

Carbon
Liquid
Steel
Vacuum
Heating
Electrod e
DIFFERENCES AMONG SUPPLIERS

Quality
 Price per unit

Batch size

Safety time

Payment delay

Purchasing manager
COMMENTS

Quality differential causes extra set-ups

Large batch :
 Reduces inventory flexibility

Decreases reception costs per unit

Payment delay modelled as a discount of 1% per period

Reception and invoicing costs are internal costs, affect order quantities not supplier choice

CURRENT POLICY OPTIMAL POLICY PREFERRED POLICY
Supplier selected
Ordering Policy
Supplier level costs
Order level costs
Batch level costs
Unit level costs
Purchasing costs
Additional costs
Inventory holding costs
Additional revenue
Total cost of ownership
S1
S2
S3
S1
S2
S3
S1 S1
S2
Supplier Month Batches Supplier Month Batches Supplier Month Batches
2 - 4 - 9 2 - 1 - 2
0 - 5 - 6 - 10 1 - 2 - 1 - 2
0 2
S1
35,000
12,608
9,750
7,127,439
7,077,418
452,500
110,643
513,122
7,184,797
1 - 2 - 3 - 4 1 - 1 - 1 - 1 - 1 S1
5 - 6 - 8 - 9 1 - 1 - 1 - 1
10 - 11 - 12 1 - 1 - 1 S2
0 - 3 - 4 - 5 - 8 1 - 1 - 1 - 1 - 1
9 - 10 - 11 -12 1 - 1 - 1 - 1
1 - 2 - 6 1 - 1 - 1
10,000
18,912
9,000
6,107,386
6,825,988
450,000
62,890
1,231,492
20,000
18,912
9,000
6,464,162
6,874,891
450,000
62,890
923,619
6,145,298 14.5% savings 6,512,074 9.4% savings

BALL
BEARINGS
DESCRIPTION

The ball bearings are mainly used for transportation of the hot steel slabs after steel has been produced in the blast furnaces and collected to form the slabs

The transportation lines consist of several rows of steel cylinders

The steel cylinders and the ball bearings are used in very rough conditions under extremely high temperatures. This causes the surface of the steel cylinders to deteriorate quickly such that they have to be replaced frequently and brought to a maintenance department for remodelling

At the time of replacement of the steel cylinders, the ball bearings are also replaced in anticipation of potential problems and thus before they have been used for their full useful live

DIFFERENCES AMONG SUPPLIERS

Prices differences for 33 items

Service levels for suppliers
 S1 and S2 highest level
 S5 lowest level
 S1 and S2: ordering and invoicing with EDI
COMMENTS
 Payment delay modelled as a discount of 1% per period
BALL
BEARINGS

CASE 1 :
CURRENT POLICY
Supplier Level -1,818,160 Sales Volume
38,706,20
Order Level
Unit Level 53,624,630
Total
S1
5,861,042 31,918,164
15.1%
S2
82.5%
52,244,974 Total Savings 0.0% Sales Savings
CASE 2 :
OPTIMAL POLICY
Supplier Level -889,383 Sales Volume
31,451,
Order Level
Unit Level
322
609,312 Market Share
46,489,100
Total
S1
0
0.0%
S2 S3
16,178,339 563,496
51.4%
46,209,029 Total Savings 11.5% Sales Savings
1.8%
18.7%
CASE 3 :
3 SUPPLIERS NOT S5
Supplier Level -1,287,870 Sales Volume
33,109,034
Order Level 609,312 Market Share
Unit Level
48,081,740
Total 47,403,182 Total Savings
S1
0
0.0%
S2 S3
17,091,794 1,133,736
51.6%
9.3% Sales Savings
S3
0.0
0.0%
0.0%
3.4%
14.5%
S4
0.0
0.0%
S4
0
0.0%
S4
0
0.0%
S5
0.0
0.0%
S6
927,000
2.4%
S5 S6
11,039,618 3,669,869
35.1%
S5
0
0.0%
11.7%
S6
14,883,504
44.9%

CASE 4 S1 S2 S3 S4 S5 S6
Supplier Level -1,007,515Sales Volume
33,166,937
Order Level
Unit Level
505,296 Market Share
48,015,910
Total
0
0.0%
20,650,300
62.3%
0
0.0%
47,513,691 Total Savings 9.1% Sales Savings 14.3%
CASE 5 :
SINGLE SOURCING S2
Supplier Level -1,954,976Sales Volume
39,499,519
193,248 Market Share Order Level
Unit Level 54,347,010
Total
S1
0
0.0%
S2
39,499,519
100.0%
52,585,282 Total Savings -0.7% Sales Savings
S3
0
0.0%
-2.0%
0
0.0%
S4
0
0.0%
12,516,637
37.7%
S5
0
0.0%
S6
0
0.0%
0
0.0%

KEY ADVANTAGES

Substantial proposition of savings

Generation of negotiation arguments

Identification of key products

Sensitivity analysis (scenario building)

Developement of a unique and standard approach of the TCO

Flexibility

Challenge the current decisions and strategies

Quantification of intangible elements

Oblige the buyers to define the cost structure of a market
TCO Objective
Purchasing
Strategy
Supply Chain
Management
PURCHASING
MANAGEMENT
DECISION TOOL

Market strategy

Selection of suppliers

Determination of market shares

Determination of ordering policy
MANAGEMENT TOOL

Budget

Reporting

Strategy follow-up
Supplier
Management
CHANGE MANAGEMENT TOOL

Pratice of the TCO

Training of the Buyers

Day to day practice of theoritical concepts

Development of a TCO history/market and of a knowledge database
Purchasing
Processes
Resources
Used
Reduction of
Purchasing
Costs

 Customer profitability analysis
= identification and analysis of the costs and revenues for a customer or group of customers
– Based on ABC-system
– Cost object = customer also include customer related acitivities
– To know the profitability so that actions can be based on it

– Revenues per (group of) customers
– Costs directly assignable to (group of) customers
– Indirect costs that are linked with activities
Based on this, the actual contribution of the different
(groups of) customers can be determined.

– Relation between activities and customers
– Understanding how activities are driven by customers
– Possibilities for
» generation of revenues
» reduction of costs
– Emphasis on the right customers
– Emphasis on the profit and not on the turnover
– Information to give discounts
– Information to fire customers

150
100
20
Cumulative % of customers
100

Revenues
Costs
Apparent
Profits
Hidden costs
Hidden
Profits
Customer
A
Customer
B
Traditional Costing
Customer Customer
A B
Activity-Based Costing
Source: Kaplan & Cooper (1997), ‘Cost and Effect’, Harvard Business School Press, p.191

High cost-to-serve customers
1 . Order custom products
2. Small order quantities
3. Unpredictable order arrivals
4. Customised delivery
5. Change delivery requirements
6. Manual processing
7. Large amounts of presales support
(marketing, technical and sales resources)
8. Large amounts of postsales support
(installation, training, warranty, field service)
9. Require company to hold inventory
10. Pay slowly (high accounts receivable)
Low cost-to-serve customers
1. Order standard products
2. High order quantities
3. Predictable order arrivals
4. Standard delivery
5. No changes in delivery requirements
6. Electronic processing (EDI)
7. Little to no presales support
(standard pricing and ordering)
8. No postsales support
9. Replenish as produced
10. Pay on time
Source: Kaplan & Cooper (1997), ‘Cost and Effect’, Harvard Business School Press, p.191

Market potential
High
Low
Low
High
Compatibility

1. Introduction
2. Definition
3. Methodology
4. Target costing versus traditional techniques
5. Characteristics
6. Role ABC in Target Costing

Percent Committed Life Cycle Costs
100%
0%
Cost commitment %
Product and Process
Planning and Design
Phase
Product
Abandonment
Phase
Product Manufacturing and product sales and service phase
Cost incidence %
Product Life Cycle Phase
Source: Cooper & Kaplan (1998),’The design of Cost Management Systems’, pg.396, Exhibit 8-1, Cost Commitment vs
Incidence

Definition 1
Target Costing represents a set of management tools and methods designed to direct design and planning activities for new products, provide a basis for controlling subsequent operational phases and ensure that products achieve given profitability targets throughout their life cycle

Definition 2
The purpose of Target Costing is to identify the production cost for a proposed product such that the product, when sold, generates the desired profit margin. The focus of
Target Costing is to reduce the cost of a product through changes in its design. It is therefore applied during the design phase of a product’s life cycle

Methodology target costing
Estimated cost
Market research and competition analysis
Product characteristics
Allowed cost
Target cost
Production

Ta r get cost in g Tr a dit ion a l
St ep 1 Ta r get pr ice P r odu ct design
St ep 2 Ta r get pr ofit E st im a t ed cost
St ep 3 Ta r get cost Ta r get pr ofit
St ep 4 P r odu ct design P r ice

 Advantages
– flexibility
– market orientation
– cost savings
– future oriented
– attention for design
 Disadvantages
– longer time of development
– burn-out of employees
– confusion on the market
– organizational conflicts

 Traditional : Japan

Unit level -material
-labour
-assembly
ABC
Also non-unit level activities
Unit Level
Batch Level
Product Level