Product costing - the art and science of assigning true costs to a diverse product range

THE INTRODUCTION:

The company in question is one of India’s largest consumer electronics companies, producing a wide range of consumer durables, including speakers, IT accessories, mobile accessories, personal care appliances, and medical products. It has sold over a billion products and services across 20,000+ pin codes in India.

THE PROBLEM:

To develop a detailed and comprehensive product costing substructure mechanism that embeds into the overall product cost management (PCM) [1] structure. Thus, the PCM framework will form part of the comprehensive management information system (MIS), facilitating a decision support system for the management to make well-informed decisions.

Re-configure the product costing framework into the SAP-ERP system (SAP-CO-PC) to enable its alignment with MIS and SAP systems.

THE SOLUTION:

Product costing is assigning costs to products based on the principle of cause-and-effect. Given below is a framework for deriving costs for each cost element:

​Cost element	SAP tcodes	Data Source and Validation Rules
Raw material	CK13N  MCRP  KE5Z	Material cost is generally derived from the Bill of materials (BOMs) [Refer to Footnote 2] using CK13N tcode Quantitative reconciliation of standard vs actual material consumption* -Physical verification of closing material stock helps in further validating BOM. (Expected material closing stock vs Actual material closing stock) * Actual Material Consumption = Material Opening Stock + Quantity Purchased – Material Closing Stock Standard Material Consumption = Product BOM recipe X FG quantity produced (using MCRP tcode)
Direct Labour	CA03 CR03	Use CA03 tcode to check direct labour hours (production routing) Review work centres mapping using CR03 tcode Analyse actual hours consumed for manufacturing products vis-à-vis estimated hours using the product routing data system Reconcile actual labour cost booked with derived labour cost, based on product routing data and quantity produced Over/ under-absorption to be reviewed in the context of normal and abnormal factors
​Direct expenses	KSB1 S_PL0_86000030	Checking direct expenses booked in GL accounts (using S_PL0_86000030 tcode) with reference to cost centre-wise booking (using KSB1 tcode)
Overheads (Production, Administrative and Selling & Distribution)	KSB1 S_PL0_86000030	Checking overheads booked in GL accounts (using S_PL0_86000030 tcode) with reference to cost centre-wise booking (using KSB1 tcode) Review basis of allocation/ assignment of costs to products
Warehouse/ Branches cost (Forming part of S&D overheads)	KSB1 S_PL0_86000030	Checking branch/ warehouse expenses booked in GL accounts (using S_PL0_86000030 tcode) with reference to cost centre-wise booking (using KSB1 tcode) Review basis of allocation/ assignment of costs to products Costs assignment should align with the principle of cause and effect, if identifiable
Quantitative Analysis	MB5B MB51	- Product-wise quantity reconciliation* to be performed using MB5B and MB51 tcodes *Actual Sales = Opening Stock + Quantity Produced - Closing Stock ± Other Adjustments
SAP Costing Methodology		Moving Average Price (V) changes in consequence of usage and entry of invoices. It is calculated by dividing the value of material by the quantity in stock. SAP Best Practice recommends moving average price (V) for material valuation with raw materials and trading goods. Standard Price (S) is a constant price without considering usage or invoices. Therefore, the material stock is valued at the same price over an extended period. Price variances are posted to price difference accounts, thereby not affecting the standard price. SAP Best Practice recommends standard price (S) for material valuation with finished goods and intermediate products/ WIP.

THE RESULTS:

The company implemented the new product-costing framework effectively. Following are the significant achievements:

Raw material

• The company observed that the variance between actual and standard material consumption was ~10-15% (which was charged off to the product material cost). Accordingly, an adequate internal controls mechanism/ framework was implemented to plug the variance gap, which got reduced to ~2-5%.

• Duplicate bills of materials (BOMs) for different products were identified and subsequently revised/ refined by recalibrating BOMs.

Quantitative analysis

• Earlier, material movements were not adequately captured, resulting in reconciliation gaps at the SKU level with even unavoidable quantity loss (~2% of the total production). The new framework helped in traceability at the SKU level. Thereby reducing quantity losses to ~0.1% of the total production.

• Earlier, there was no distinction between the material codes for products manufactured and traded. After the new product costing framework, the traceability at the SKU level became comparatively more straightforward, resulting in efficient allocation of differential costs to manufactured and traded products.

Selling and distribution cost

• The new product costing framework enabled the identification of the selling and distribution costs based on the principle of cause and effect instead of the revenue allocation approach.

FOOTNOTES

1. ⌃ Understanding Product cost management in depth 🡕

2. ⌃ Refer case study on Bill of Material 🡕

FREQUENTLY ASKED QUESTIONS:

What is product costing?

What are direct costs?

What are indirect costs?

What are the challenges of costing for a diverse product range?

What are the benefits of accurate product costing?

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SANKALP WADHWA

Partner, Chandra Wadhwa & Co. (Cost Accountants) | B.Com, FCMA, ACA, DISA | Certified SAP-CO Consultant | Executive Program on Management and Finance (IIM, Ahmedabad)

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