fine foods: cost analysis & performance evaluation
TRANSCRIPT
04/20/23
Current situation
Case Overview
Case Overview
BackgroundBackground
• Particular things to which we assign the accumulated cost.
• Variables that affect costs over a given time span.
Cost object
Cost driver
Cost ObjectCost Object IllustrationIllustration
ProductA wide range of food products MP is one of them.
ServiceProduction office, providing information and assistance to Fine Foods dealers.
CustomerSupermarkets, shops, restaurants, governmental organizations and so on.
ActivityRaw material purchase and storage, maintain machines running and maintenance, marketing and sales and so on.
Department Environmental Department, Handling Raw Material Department, Human Resource, IT and so on
PART1 Product CostingPART1 Product Costing
1. Cost glossary1. Cost glossary
Storage, Environment,Electricity,Maintenance mechanicsQuality, Engineering,Production line maintenance/cleaning Media and salesMedia and salesSales and marketing Sales and marketing Production office serviceProduction office serviceManagementManagementInternal logistics/resource Internal logistics/resource planning planning Sanitation , Vehicles Building maintenance Steam boiler
Raw materialsPackaging materialsDirect production salaries
DirectDirect Cost
Freight out
Incremental cost——additional total cost from an activity.Incremental cost——additional total cost from an activity.
Common cost——cost of activity or cost objects that is shared by two or more users.
Common cost——cost of activity or cost objects that is shared by two or more users.
Relevant Cost ——future cost related to decision making.Relevant Cost ——future cost related to decision making.
Irrelevant Cost ——accumulated in past and has no relation with current decision. Irrelevant Cost ——accumulated in past and has no relation with current decision.
Controllable Cost ——expenditure that have some alternative. Company can select one of options to minimize cost.
Controllable Cost ——expenditure that have some alternative. Company can select one of options to minimize cost.
Uncontrollable Cost ——expenditure that has no option and cannot be decided by company.
Uncontrollable Cost ——expenditure that has no option and cannot be decided by company.
Related in some aspect, often overlap with direct cost.
Like building maintenance, warehouse/storage, production line maintenance/cleaning.
Time horizon: Fixed cost like building and machines are uncontrollable in short term, but controllable and adjustable in long term.
1. Cost glossary1. Cost glossary
2. Cost Allocation2. Cost Allocation
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Activity-based allocation ——Dividing activity expense by total quantity of activity cost driver.
Activity-based allocation ——Dividing activity expense by total quantity of activity cost driver.
Activity Center
Cost Driver
Production Production processprocess
Direct labor time or production time
Process Process serviceservice
Length of maintainence interval or production time
ManagementManagementComplexity of quality test, information system, arrangement in human resource, business development
DistributionDistributionWeight of products, distance and distribution frequency
Promotion Promotion Number of branded products and direct customer.
2. Cost Allocation2. Cost Allocation
Product costProduct cost
Steam boilers
Building/Mechanic maintenance
Vehicles
Sanitation
Freight out
Steam boilers
Building/Mechanic maintenance
Vehicles
Sanitation
Freight out
Remaining factory costRemaining factory cost
Fixed percentage
Product groupsProduct groups
Production time
Sales and marketing (SMU1& SMU2)
Sales and marketing (SMU1& SMU2)
Top management
Business administration
Information system
Human resources
Supply management
logistics
Top management
Business administration
Information system
Human resources
Supply management
logistics
Number of employees, labor time, production time or
percentage
Cost centersCost centers
Gross sales
Weight Sales volume
Weight
Direct material & labor cost for per product
Fixed costFixed cost Other fixed costOther fixed costMedia and SalesMedia and SalesDirect costDirect cost
Co
st allocatio
n b
ase
Products in SMU1
Products in SMU2
Products in SMU3
UnfairUnfairUnfairUnfair
UnfairUnfair
3. 3. Product costing approachesProduct costing approaches —— ——CurrentCurrent
Product cost
Product varietyProduct varietyProduction timeProduction time
Weight, Weight, Distance &Distance &FrequencyFrequency
product varietyproduct variety
Number of Number of direct customerdirect customer
Un
chan
ged
, as befo
re.U
nch
ang
ed, as b
efore.
Products in SMU1 Products in SMU2 Products in SMU3
Cost allocation baseCost allocation base
Process service Cost pool:Steam boilersBuilding/Mechanic maintenanceSanitation
Cost pool:VehiclesFreight out
Distribution Promotion Production Process(Cost pool: Direct cost and remaining factory cost that can be allocated to each unit )
Management(cost pool: Top managementBusinessadministrationInformation systemHuman resourcesSupply managementlogistics)
Sales and marketing
(SMU1&SMU2)
Media
3. 3. Product costing approachesProduct costing approaches —— ——ABCABC
Cost Reallocation SMU1 SMU2 SMU3
Steam boilers
Building
maintenance
Sanitation
A Variety of branded products
for a big market
Bulk products and MP,unbranded,less variety
Unspecified
Vehicles
Freight out
More direct customer,more destination,
high frequency.
Institutional customers, less destination,
sell in bulk, low frequency.
Deliver to other countries
Media Advertise for a variety
of products
Institutional customer,less variety
MP sold in a small market
Governmental customer,
lessmedia expense
Sales and marketing activities in many
supermarket and shop for many products
Less activities, MP, not normal
in MexicoNull
3. 3. Product costing approachesProduct costing approaches —— ——
ImprovementImprovement
PART2 Special OrdersPART2 Special Orders
Definition: The contract can be rejected by customers within one year before delivery.
Products MP (One-year storage period)
Customers Food distributor in Mexico
Raw Materials Same initial materials (Long storage period)
Production Scheduling idle capacity of common production line
Package Unbranded / in 10 pounds
–High-volume purchasing of readily stock of raw materials–High-volume purchasing of readily stock of raw materials
–Flexibility in scheduling production and sales–Flexibility in scheduling production and sales
–Good profits in niche market in Mexico–Good profits in niche market in Mexico
–Maximization of capability–Maximization of capability
–Loyalty of customers in Mexico–Loyalty of customers in Mexico
Benefit
1. Benefits of Special orders1. Benefits of Special orders
Share production facilities with other productsShare production facilities with other products
Constitute 2% of total revenues for Fine FoodsConstitute 2% of total revenues for Fine Foods
Same raw materials & UnbrandedSame raw materials & Unbranded
MPMP
With By-products’ cost accounting rule, MP should not
cover common costs with main products.
*Common cost——Cost of operating a facility, activity or like cost
object that is shared by two or more users.
With By-products’ cost accounting rule, MP should not
cover common costs with main products.
*Common cost——Cost of operating a facility, activity or like cost
object that is shared by two or more users.
2. Joint-products & By-products2. Joint-products & By-products
Problem 1: Production decision when Special orders > Idle CapacitySometimes special orders may come unexpectedly, if the quantities are toolarge that the idle capacity can not support the production.
Problem 1: Production decision when Special orders > Idle CapacitySometimes special orders may come unexpectedly, if the quantities are toolarge that the idle capacity can not support the production.
A1:Opportunity cost should be considered. That is benefits lost or forfeited as a result of selecting one alternative course of action over another.
A1:Opportunity cost should be considered. That is benefits lost or forfeited as a result of selecting one alternative course of action over another.
A2:Special orders can be accepted only if CM >0 and there isno normal orders in this market. Otherwise, too much discountswill lead to bad influence to normal orders.
A2:Special orders can be accepted only if CM >0 and there isno normal orders in this market. Otherwise, too much discountswill lead to bad influence to normal orders.
Problem 2: Pricing decision when Special orders < Idle CapacityFine & Foods will approach customers to indicate that idle capacity is planned. But this will lead to unexpected discounts for these customers. (Game Play)
Problem 2: Pricing decision when Special orders < Idle CapacityFine & Foods will approach customers to indicate that idle capacity is planned. But this will lead to unexpected discounts for these customers. (Game Play)
3. Problems3. Problems
Gross sales
(Standard discounts)
(Activity discounts)
(Special discount activities for customers)
Net sales
(Variable manufacturing cost)
(Fixed manufacturing cost)
(Freight out)
Contributing Margin
（ margin-fixed cost controlled by segment manager ）Segment margin
（ indirect costs to segments ）
Operating profit
Problems Problems
Diagnosis: The acceptance of special orders Diagnosis: The acceptance of special orders
CM1 should be improvedCM1 should be improved
Too much special ordersToo much special orders
Not enough special ordersNot enough special orders
Cost accounting of MP(By-products)Cost accounting of MP(By-products)
CM should not minus fixed fixed manufacturing manufacturing cost.cost.
CM should not minus fixed fixed manufacturing manufacturing cost.cost.
By-products MP do not cover variable manu- facturing cost.
By-products MP do not cover variable manu- facturing cost.
4. Improvements 4. Improvements
1.Responsibility Centers1.Responsibility Centers ——for Fine &Foods ——for Fine &Foods
PART3 Performance EvaluationPART3 Performance Evaluation
Responsibility center
Manager is responsible for Examples
Cost Center Controlling costs
Production line, R&D, Finance, human resource, IT department supply chain management
Revenue Center Generating sales revenue SMU3
Profit CenterProducing profit through generating sales and controlling costs
SMU1 ,SMU2
Investment Center
Producing profit and managing the division’s invested capital
Fine Foods, Inc. Fine Foods Canada, LtdSmaller companies
1. Performance Evaluation Methods 1. Performance Evaluation Methods ——for profit centers ——for profit centers
1.1. Performance Evaluation Methods Performance Evaluation Methods —— ——for profit centers(cont’d.) for profit centers(cont’d.)
IMPROVEMENTSIMPROVEMENTS
Exclude the influence of common costs
Gross sales
(Standard discounts)
(Activity discounts)
(Special discount activities for customers)
Net sales
(Freight out)
Contributing Margin
(Media)
(Sales Promotion)
(Marketing and sales)
Segment margin
Focus on the relationship rather than absolute amounts
Equation
Advantages
Provides additional information on profitability and efficiency.
Comparable with divisions and with other companies.
Beneficial for resource allocation.
ROI
RI
Equation RI= Operating profit － (Target rate of return × Total assets)
Advantages
Promotes goal congruence better than ROI .
Apply different target rates of return for divisions with different levels of risk.
1. Performance Evaluation Methods1. Performance Evaluation Methods ——for investment ——for investment
centerscenters
EVA
Equation EVA= After-tax operating profit － (Cost of capital × Invested capital)
AdvantagesConsiders income generated for investors and long-term creditors in excess of their expectations.
Promote goal congruence.
Re
Re
Operating profit venue Operating profitROI
venue Average total assets Average total assets
An economic concept concerning the cost to a "principal“, when the
principal chooses an "agent" "agent" to act on its behalf.
An economic concept concerning the cost to a "principal“, when the
principal chooses an "agent" "agent" to act on its behalf.
Bonding cost
· Incentive costs: used to reward the agents for company’s benefit
· Remuneration schemes: used to design the methods for
evaluating the degree of the efforts
Monitoring Cost
Used to constrain the agents or design the contracts or methods
for monitoring the agents’ behavior.
They have different interests and the agent has more information.To ensure agent’s acting in its best interests, principal has to sign up contracts or agreements which may lead to costs.
They have different interests and the agent has more information.To ensure agent’s acting in its best interests, principal has to sign up contracts or agreements which may lead to costs.
2. Agency Costs 2. Agency Costs
·Unbalanced cost allocation for a target “operating profit”·Unfair performance evaluation leading to lower efficiency
3. Agency Costs Reduction3. Agency Costs Reduction
Individual performance evaluation
Team-based performance evaluation
ExampleLabor hours, amounts of finished product
Operating profit, Segment margin, EVA
AdvantageEncourage employees to try their best
Encourage all staff to help each other to realize same goal
DisadvantageCompetition among employees would hurt benefits of SMU
· Operating profit is subject to several fixed costs uncontrolled by SMU
· Individual incentive becomes smaller
4. Performance Evaluation 4. Performance Evaluation Mode Mode
Perspectives Indicators
Financial EVA, ROI, RI
Nonfinancial
Customer
Customer SatisfactionPercentage of market share, increase in the number of customers, number of repeat customers, rate of on-time deliveries
Internal process
Post-sales measures, number of warranty claims receivedOperations measures, manufacturing cycle time, defect rateInnovation capabilities, the number of new products developed
Learningand
growth
Employee capabilities, Employee retention, Employee satisfaction, Information system capabilities, and Organizational structure capabilities
Managers tend to take fierce methods to gain high financial level which may sacrifice the future benefits.
Managers tend to take fierce methods to gain high financial level which may sacrifice the future benefits.
· Consistent with the strategy · Encourage managers to take action from the long run.
· Consistent with the strategy · Encourage managers to take action from the long run.
3. Balanced Scorecard3. Balanced Scorecard
Case Overview
Case Overview
ProductCostingProductCosting
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Special Orders
PerformanceEvaluation
BackgroundBackground
Current SituationCurrent Situation
Activity-based allocation
Activity-based allocation
Responsibility Centers
Responsibility Centers
Performance IndicatorsPerformance Indicators
Agency CostAgency Cost
Cost Allocation Base
Contribution Margin
Pricing Decision
AcceptanceAcceptance
DisposureDisposure
ProductionProduction
ROI & RI &EVA
Reward System
PART4 Conclusion & PART4 Conclusion & RecommendationsRecommendations
04/20/23
PART4 Conclusion PART4 Conclusion & Recommendations & Recommendations
THE END
THANKS!