Download + of operating cost and profit centres

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CONTRIBUTION ANALYSIS FOR
MULTIPRODUCT FIRMS
In a multiproduct firm,each product is likely to contribute something towards the payment of
fixed and indirect costs.
Profit=Total contribution-(TFC+Overheads)
In general any product that makes a positive contribution is worth producing since it will help
towards the payment of the firm’s fixed costs and hence profits.Uses for a b.:
-Contribution analysis allows a b.to identify the amount of profit it makes on an individual
sale.This can help the firm in setting prices to ensure that contribution is made towards
payment of fixed and indirect costs
-The analysis can help firms decide which products should be given investment priority.
-Can help managers decide whether it should produce the products or purchase them from
suppliers
-These occur when a customer places an order at a price that differs from the normal price
charged by the firm.The price could be higher(although the customer will request added
benefits from offering a higher price,such as shorter delivery times)or lower(probably
because the customer is buying a significant amount of the product).Whether the b.takes
on this special order will largely depend on the total contribution made from such a deal.
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COST AND PROFIT CENTRES
As a b.grows in size,it becomes more difficult to manage its finances.Costs and revenues from
different areas of the b.become harder to account for.Hence,different sections of the b.are
divided up into either cost or profit centres with a manger being held responsible for the
costs and/or revenues incurred for each department or centre.
COST CENTRES
A c.c. is a department or unit of a b.that incurs costs but is not involved in making any
profit.These costs are clearly attributed to the activities of that department.Making these
different sections of a b. aware and accountable for their contribution towards the firm’s
costs may help managers to have better cost control.This will allow the b.to identify which
departments are costing the firm the most money
PROFIT CENTRES
A p.c. is a department or unit of a b.that incurs both costs and revenues.A manager is appointed
to be responsible for the profit centre.Each profit centre is responsible for contributing to
the overall profits of the b.Having profit centres allows an org.to identify the areas that
generate the most(least)revenue.
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+ of operating cost and profit centres:
-it forces mangers to be more accountable for their department’s contribution towards the
firm’s costs
-the b.can identify areas of financial weakness.Using cost and profit c.allows a b.to identify
sections or products of the org.that are loss-making
-delegating power to those in charge of cost and profit centres can be a form of motivating
these people
-benchmarking with the most efficient cost and profit centres within the org.can take place to
improve its overall efficiency
-departments and smaller teams tend to work much better than larger ones which may suffer
from disorganization and a lack of effective communication.This promotes better team
spirit within the different areas of an org.
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Drawbacks:
-allocating indirect costs such as rent,interest,insurance and administrative costs is a
subjective task.This means that it can be difficult to accurately calculate the overheads
attributable to each cost centre
-allocating a greater proportion of costs to a particular centre will reduce its profits,although
this does not represent its underlying trading position
-the performance of a cost or profit centre can be changed by external factors beyond its
control,such as higher raw material prices
-data collection in order to accurately account for costs and revenues of each centre is likely to
be expensive and time consuming
-may promote unnecessary internal competition to cut costs and/or raise revenues.This can
create tension and conflict between the various sections of an org.
-managing cost and profit centres can add to the pressure and stress on staff.This may
therefore lead to motivational problems
-centres are less likely to consider social responsibilities and ethical objectives if they are run
as profit centres.This is because the compliance costs of being ethical and socially
responsible will raise the profit centre’s costs,thereby lowering its profit level
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APPORTIONING OVERHEADS TO COST AND PROFIT CENTRES
2 main ways of apportioning costs:
-full costing allocates the total indirect costs to each centre based on a single predetermined
criterion
-absorption costing allocates both the direct and indirect production costs to appropriate cost
and profit centres.The direct costs are easy to allocate since they are generated by and
specific to each cost centre.Overheads are more difficult to allocate since they are not
unique to a particular cost or profit centre.Absorption costing divides indirect costs based
on several or all of the above criteria.This may be a more representative account of their
contribution to the costs of the b.,although it is not a simple to calculate as using full
costing
KAIZEN-CONTINUOUS IMPROVEMENT
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The concept of kaizen-a process of productivity and efficiency gains within a firm that comes
from small and continuous improvements being made by the workforce,rather than a large
one-off improvement.This is partly because people tend to be resistant to change,especially
those changes that are large scale and disruptive to the org.This is often much easier to do
when there are (continuous) improvements in the org.since job losses or pay cuts are
unlikely to surface in such situations.Kaizen groups do not tend to directly look at cost
cutting:the focus remains on continual improvements in quality.Kaizen groups have
decision-making power.Many of the best suggestions for improvement often come from
shop floor employees who have direct contact with customers.They are the ones best
positioned to understand the benefits of changes to certain operations or processes.This
has the added benefit of motivating staff since they are able to use their initiative and to
have some input into the decision-making of the org.
QUALITY CIRCLES
Refer to small groups of people who are organized together to examine issues relating to the
quality of output and to make recommendations for improvement to management.Unlike
Kaizen,members of the quality circle are also directly involved in the execution and
management of the solution.
A huge limitation to Kaizen and quality circles is that many individuals remain unmotivated by
teamworking,extra responsibility or empowerment.They prefer to be told what to do and
only see work as a means to an end.
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BENCHMARKING
Refers to a b. comparing its products,operations and processes to those used by others in the
same industry,especially market leaders.
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Historical benchmarking involves comparing the same performance data over time.Sales
turnover,market share,profits and staff turnover can all be benchmarked this way
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Inter-firm benchmarking involves comparing the same performance data of different bus.
BENEFITS:
-dealing with problems of quality by using external benchmarking can be quite fast and is more
effective than simple guesswork
-it looks at comparisons from the perception of customers and therefore this should help the
firm to take appropriate action to meet their customers’ needs and wants
-the successful implementation can help to lower production costs and to improve a firm’s
overall competitiveness
LIMITATIONS:
-the cost and time implications of collecting relevant and up-to-date information from other
firms in the industry can be a major constraint to effective benchmarking
To be effective,benc.has to be a continuous process that involves the commitment and
involvement of every employee.This allows the firm to gain lasting improvements in both
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quality and productivity
NATIONAL AND INTERNATIONAL QUALITY STANDARDS
Nat. and inter. quality awards are used to show that certain quality standards have been
met.B.that meet or exceed these standards are permitted to include the quality award
symbols or logos on their products.This helps to assure customers that the product is of
high quality.Quality awards help to :
-promote quality awareness within the org.
-improve org.performance
-recognize quality achievements(which can have motivational effects on the workforce)
-strengthen the competitiveness of an org.
The ISO’s goal is to facilitate international trade by providing a single set of quality standards
that consumers and b. throughout the world would recognize and respect.The ISO is one of
the most powerful non-governmental org.in the world because it is influential in affecting
government legislation surrounding quality assurance.
Perhaps the most widely recognized ISO Standard for quality management is the ISO 9000.It is
awarded by independent auditors who certify that the ISO Standards have been met.