VALUE STREAM COSTING
Viable Alternative to Standard Costing
In the past few years there has been a drive to move the cost methodology of manufacturing from standard costing to other more viable alternatives which lends itself to a more detail, layered and truer picture of the costs of making a product. Prior to the continuous improvement ‘revolution’ where the standard cost of a product would not be outdated in an extremely short period of time standard costing was a viable method.
However, since this revolution took hold and with the advent of other manufacturing theories – Just-in-Time, Kanban, Theory of Constraints and Lean Manufacturing – a standard cost can be invalid in a month’s time. Then ensues the time consuming formulation of another short lived standard.
In many circles the consensus has been that standard costing has too many weaknesses which finally can not be overlooked. Below is a list of those drawbacks:
1- Useless in a continuous improvement environment: Standard costs were designed to be the expected cost of a product for a period of time into the future, usually one year. But in this rapidly and ever changing environment a standard cost becomes outdated and irrelevant within a very short time span.
2- Does not result in rapid feedback of cost information: Accumulating data for standard cost is time consuming and could take an entire month before this information is fed back to production supervisors. With many manufacturers who implemented one of the above manufacturing theories or methodologies the timing is much too slow. This information is needed before their production runs are completed. To first review standard cost variance a month or more after the fact is a waste of time.
3- Does not yield information at the batch level: Most, if not all, standard costing systems accumulate costs and issue variances based on the total manufacturing process. This yields little or no information at the batch production level where most of the process issues arise.
4. Contrary purchasing behavior: One of the month end variance that is a result of standard costing is the price variance. This is the amount of excess materials cost a company incurred in producing the product. Through the presence of this variance the purchasing department is charged with lowering the price of materials. This unto itself is a logical next step but it can and has been taken too far – purchasing does not wish to show an unfavorable purchase price variance.
5. Labor standards are inaccurate: The inaccuracy of labor costs/variances is worse than those of material costs/variances. In too many instances the designer of the standards – the engineer – fails to include several pertinent and much too often overlooked factors such as; downtime, break time and training.
6. Contrary production scheduling behavior: The labor efficiency variances are another outgrowth of standard costing. Prior to continuous improvement this was closely watched variance for it provided production managers incentives to push for long operating runs that were cost-effective on a per unit basis. Post continuous improvement era production operations tend to follow just-in-time principles which are all about short production operations. Thus, improving labor efficiency should no longer be an organization target.
These are in my opinion the six major faults of using standard cost systems. There are others which are on the surface more benign but once uncovered contribute to standard cost problems – contrary labor scheduling behavior, shifts focus to labor variances, short product lives and perpetuates inefficiencies.
However, many companies still employ standard costing. Their argument is that it creates a benchmark against which comparisons can be made even if the standard has the possibility of inaccuracies.