Cost Management and Control Strategies in Accounting

Introduction to Cost Management

Profitable business operations in the 21st century are a function of management's ability to forecast the external operating environment and navigate it effectively using available internal resources. Given the growth in emerging markets and the threat of rising inflation, chief executives are required to consider the net present value (NPV) of dollars deployed today in order to generate future cash flow.

Additionally, projects are more profitable when cost constraints are adhered to and when the cost management practices necessary to maintain those constraints are implemented and managed appropriately. The area of cost control is rather broad and opaque to the layman. Cost control in retail is a more defined and narrower parameter, shaped by the nature of industry expectations and the specific constraints within retail environments.

Cost management is the process of implementing or actualizing cost control through either direct or indirect means. Heyman (1975) remains relevant in the modern discussion of cost control. According to Heyman, an organization's management is the critical component in acknowledging the requirement to control expenses. He identifies the following areas for improvement: payroll, performance, costs, rent, advertising, electronic data processing, communications, and supplies (Heyman, 1975).

Additionally, Heyman suggests that if costs are out of line, each cost should be broken into a line item in order to determine where savings can be identified and where cost-saving or cost-control measures may be implemented. He also recommends that a cost control executive be appointed who holds autonomous control and final authority over decisions regarding cost containment and expenditures.

The Cost Reduction Champion Model

Trozzi (1974) identifies the cost reduction process as the highest organizational priority, with its urgency being central to the organization's ability to meet the demands of a comprehensive cost reduction program. Trozzi suggests that a "champion" be named by executive management. A champion is a designated steward appointed to oversee a targeted process with a clear set of goals. The champion is responsible to management and to the entire organization; the ability to effectuate cost control is inherent to the authority of the position, and employees are better able to perform their jobs as a result of the champion's intervention (Trozzi, 1974).

The champion is able to convey the attitude of cost control and containment procedures to key staff and management throughout the organization as a means of adopting specified cost reduction techniques, often associated with Six Sigma and Kaizen. A successful cost reduction program depends on the organization's ability to analyze corporate data and identify where waste reduction will have the greatest net benefit on short- and long-term profit goals (Trozzi, 1974).

Cost reduction techniques are linked to increases in both profit growth and revenue growth. According to Bannon (2001), the Mattel Corporation was able to control costs with such success that it doubled the revenue growth experienced at the industry average of 2% to 3%. An average growth rate of 2% to 3% indicates that profits, before cost reduction measures are implemented, are approximately at the industry average.

The Mattel Corporation is a relatively large toy company and holds a substantial market share in the retail toy industry. It was therefore expected to grow at approximately 3% prior to the cost reduction processes and innovative cost reduction management introduced by CEO Robert Eckert (Bannon, 2001). Mattel's ability to reduce costs is rooted in its capacity to see how a process can be done differently, or with greater care toward a lower cost per unit.

Mattel Corporation as a Cost Control Case Study

Companies have a number of means by which to reduce costs, from changing vendors in the supply chain to process change management and human resources cost management. Mattel decided to repackage its products in a manner consistent with cost control. Innovations such as multi-lingual packaging allow for lower production and raw material costs while enabling greater leverage in product shipment to more competitive markets mid-season (Bannon, 2001).

The price and revenue curves are generally expected to exceed the cost curve in the long run; however, this may not hold in the short run when a company is highly leveraged, such as during a new or growth/expansion phase. Companies will take a sum — say, $10 million needed to reduce cost per unit and fund the next production phase — and invest it at an interest rate higher than the rate paid to finance the borrowed capital from a creditor or bank.

Work-force cuts are also critical to lean operations and cost containment. The human element is often lost on corporate decision-making bodies, as the bottom line is the most important part of business operations and decision-makers will always seek to maximize it. Organizations have relied on layoffs and attrition to reduce workforce headcount and thereby reduce working capital obligations in the short term.

In the case of Mattel, cost reduction came via a 4% workforce reduction (Bannon, 2001), which equated to approximately 1,300 jobs. This refocus from long-term revenue growth to the bottom line is what propels stock price in the short run. Chief executives are inherently incentivized to raise the stock price, and that means making short-term decisions that have an immediate upward effect. Long-term decisions that will raise the stock price at a future point will not do so during the CEO's tenure, and therefore may not be prioritized.

Eckert also borrowed practices from other companies in his industry. Chief Information Officer Joe Eckroth (Bannon, 2001) implemented what he termed the "bullet train" methodology, which had been used at his previous employer, GE. By focusing on several metrics including travel and printed materials (Bannon, 2001), Mattel forecast cost savings of $1 million per year simply by addressing processes such as catalog production and centralizing both production and the paper procurement process (Bannon, 2001).

This approach is not uncommon and represents a modern method of cost reduction. The process is essentially that of Design, Manage, Analyze, Improve, and Control — the Six Sigma module for process redesign. By identifying processes tied to specific cost items on the income statement, the organization or its designated champion can determine the best methodology to reduce the costs associated with each process. The process instituted at GE is designed to produce consistent earnings rather than strong revenue growth (Bannon, 2001).

Conclusion

Landers, B. (1989). Overhead cost management in retailing. International Journal of Retail & Distribution Management, 17(3), 14. Retrieved from http://search.proquest.com/docview/210969127?accountid=13044

Trozzi, M. (1974). Managing the cost reduction process. Retail Business Review, 42(9), 14. Retrieved from http://search.proquest.com.rlib.pace.edu/abiglobal/docview/211124576/12DAF4D15AB6D9CC697/12?accountid=13044