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Are 'better' costing methods worth the effort
Gary Cokins, author of IFAC’s new costing evaluation model, is on a mission to help you find out. By Camilla Berens, freelance journalist.
The evaluation model recently launched by the International Federation of Accountants (IFAC) aims to help management accountants assess and improve their costing methods.
‘Evaluating the costing journey: a costing levels continuum maturity model’ complements the IFAC good practice guidance document outlined in the last edition of Insight. It provides guidance on how best to approach the design, implementation and continuous improvement of costing methods, data collection, reporting, analysis and systems.
‘Essentially, the model is a self-help tool that can be used by professional accountants to evaluate their organisation’s current practice and to consider appropriate action for improving decision making and performance management,’ said Gary Cokins, the main author of the model.
‘It’s important because the quality of internally reported cost information influences so many things,’ Cokins continued. ‘This includes decision support and analysis as well as information used for planning, cost estimating, profit margin analysis, budgeting and rolling financial forecasts – to name but a few.’
The model dovetails with one of IFAC’s six principles for evaluation and improving costing in organisations. Principle D in the federation’s document, ‘Evaluating and improving costing in organisations’, states that, ‘The design, implementation and continuous improvement of costing methods, data collection and systems should reflect a balance between the required level of accuracy and cost of measurement (that is, cost benefit trade-off) based on the competitive situation of the organisation.’
The model’s continuum approach recognises that there will be a point beyond which additional analysis or detail will fail to improve decision making enough to justify the effort and expense. ‘We need to take into consideration that an apparent gain in system sophistication can easily be negated by an inability to maintain, update and operate it effectively,’ Cokins said.
The development of costing sophistication along the costing continuum is laid out in 12 separate levels. These span historical, descriptive views of managerial accounting and reporting (including traditional and activity based costing techniques) to predictive views used in economic analysis and decision making. The model culminates in resource consumption accounting and simulation modelling.
‘It’s designed to help an organisation that is somewhat confused by all of the alternative costing methods, including new ones like lean accounting, to be oriented,’ Cokins said. ‘It can identify which level its existing costing practice is at and examine the potential for advancing to one or more stages.’
As the organisation progresses, the administrative effort and costs to attain the next level increase. ‘One can test each progression by asking, “Is the climb worth the view?”,’ Cokins continued. ‘That’s to say, will the greater accuracy, visibility and insight gained exceed the extra effort to model and calculate the costs?’
The model measures two main capabilities of costing systems. The first is the modelling capability, including the calculation of historical and projected costs (for example, through using budgets). The second capability, based on forecasts and predictive analytics, involves the robustness a costing approach provides to understand the impact from changes (for example, future volume and mix of products and services or process changes) in terms of marginal/incremental information.
‘The latter predictive capability is relevant to effective decision support because many decisions in an organisation have incremental impacts on the amount of resources required and their associated expenses,’ Cokins said. ‘The information from some of the higher levels can also be used for planning decisions such as target costing for new product development, investment decision making and variance analysis of actual incurred versus expected costs.’
The model does not address how to use cost information. ‘The focus is on attaining a high quality of cost data (this is, accuracy, detail and transparency) for a range of analysis and decision purposes,’ Cokins added.
The costing continuum model can be applied to help organisations determine an appropriate level of resources and capacity to meet its customers’ price sensitive needs. ‘By “appropriate level” we mean that the organisation must meet the balance between not being wastefully excessive with unused capacity and not dangerously deficient where missed opportunities or poor customer service may result,’ said Cokins.
The new model also outlines further opportunities for CIMA members to move into the role of business partner. ‘The cost maturity model can help professional accountants to play a central role in educating users and better understanding their informational needs,’ Cokins continued.
Some accountants struggle to convince their colleagues that there are superior methods to allocating indirect expenses, he said. ‘On the other hand, some users struggle to convince their organisation’s accountants that they need customer profitability reporting that traces expenses like distribution, selling and marketing below the gross profit margin line,’ he said.
The costing continuum shows one way that the role of the management accountant can advance from a data provider to a business partner for better decision making. ‘Both the accountants and managers can evaluate where their existing costing practice resides and together they can more objectively assess if reformed practices at a higher levels of the model are justified,’ Cokins concluded.
‘Evaluating the costing journey: a costing levels continuum maturity model’ is free to download in the professional accountants in business (PAIB) section of the IFAC bookstore. IFAC welcomes your feedback on the model and is also seeking guidance on its international good practice guidance document, ‘Evaluating and improving costing in organisations’.
Comments can be sent to Stathis Gould, senior technical manager, PAIB Committee (firstname.lastname@example.org). Email email@example.com.
Alfred Ramosedi and Keith Luck (with Richard Mallett as their technical adviser) represent CIMA on the PAIB Committee which oversees the development of the guidance.
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