Cost Control: Meaning, Definition, Cost Reduction, Difference, Features, Elements, Steps, Measures and Advantages

Cost control is defined and understood as the process of regulating the costs of operating an undertaking. The process of regulation is guided by cost accounting. Further, cost control needs executive action. It does not come about automatically.

Cost control is achieved by fixing standards of performance, collecting actual cost data for each area of responsibility, comparing actual data with standards and forwarding prompt report to top management highlighting the deviations from standards from immediate corrective action. Thus, cost control compels actual costs to conform to planned costs.

Contents

Introduction to Cost Control
Meaning of Cost Control
Definitions of Cost Control
Features of Cost Control
Elements Involved in Cost Control System
Steps Involved in Designing a Cost Control System
Aspects of Cost Control
Importance of Cost Control
Techniques of Cost Control
Key Points Exercising Effective Cost Control
Measures to be Adopted for Effective Cost Control System
Difference between Cost Control and Cost Reduction
Myths and Facts
Benefits of Cost Control and Cost Reduction
Advantages of Cost Control

What is Cost Control: Meaning, Definitions, Cost Reduction, Features, Elements, Steps, Aspects, Techniques, Key Points, Measures, Difference, Advantages and More…

What is Cost Control – Introduction

Modern management is becoming increasingly cost-conscious and is constantly in search of new ways of controlling costs and eliminating wastages. One of the basic objectives of cost accounting is to achieve cost control.It is not enough if costs are worked out and presented regularly to the management. The effectiveness of cost accounting is judged primarily from the extent to which it has been able to bring about a control over the manufacturing and other expenses.

ADVERTISEMENTS:

The Terminology of Cost Accountancy of the Institute of Cost and Management Accountants, London, defines ‘cost control’ as “the guidance and regulation by executive action of the costs of operating an undertaking, particularly where such action is guided by cost accounting.”

In cost control, the first step is to set up the target to be achieved, i.e., the goal or objective to be attained. The cost control system guides the organisation to reach that goal. For this purpose, budgets or standards are used. These budgets or standards provide the yardstick against which actual costs and performances may be compared.

If at any stage, it is noticed that the expenses are showing a trend away from the goal, resulting thereby in a variation from the target, the cost control systems help to regulate this trend and to eliminate the variations. This guidance and regulation is by executive action, i.e., through an action taken by the executive who is responsible for the incurring of the expenditure.

It should be clearly understood that a cost accountant by himself does not control the expenses. He merely assists in the control of expenses since an expenditure can be controlled only by the person who incurs the expenditure. The cost accountant brings to the notice of the executive concerned, the exact point on which an action is required of him for regulating the expenses.

ADVERTISEMENTS:

Thus, cost control is the guidance and regulation through an executive action and this executive action is exercised in respect of all the expenses incurred in operating an undertaking. Cost control comprises all procedures and measures by which the cost of carrying out an activity is kept under check and aims at ensuring that costs do not go beyond a certain level.

Cost Control – Meaning

“Cost control” is operated through setting standards of targets and comparing actual performance therewith, with a view to identify the deviations from standard norms and taking corrective actions in order to ensure that future performance conforms to standard norms. In other words it can be explained that it is a scientific management technique to control and reduce the costs of doing business.

It is more of an activity than a theory. Every industry and company has its own standards to control costs. Cost control is concerned with the ways and means of keeping the costs at a lower level, without affecting efficiency and effectiveness.

According to Eric L. Kohler, cost control is the employment of management devices in the performance of any necessary operation so that pre-established objectives of quality, quantity and time may be attained at the lowest possible outlay for goods and services.

ADVERTISEMENTS:

Such devices include a carefully prepared and reviewed bill of materials; instructions; standards of performance; competent supervision; cost limits on items and operations; and studies, interim reports and decisions based on these reports.

In short, it is the regulation by executive action of the costs of operating and undertaking. The essential requirement of cost control is to fix reasonable targets for all important activities, in consultation with employees who are responsible for achieving them. In the next step, the actual performance should be compared with the targets at periodic intervals.

Important deviations must be identified, analysed and brought to the notice of those responsible for results. The executives must also find out the reasons for deviations and initiate remedial measures immediately. Important techniques like standard costing and budgetary control may be put to use in order to ensure cost control. Cost control means regulation of the costs of operating a business by executive action, i.e., it is the function of keeping expenditure within acceptable limits. It should not be confused with cost reduction.

Cost Control – Definitions

Cost control is defined as “the guidance and regulation, by executive action, of the cost of operating an undertaking.” It is exercised through numerous techniques such as standard costing, budgetary control etc. It is to improve performance or efficiency to achieve the target.

It involves the following:

1. Setting up standards

2. Finding out the difference between actual and standard (variance)

3. Analysing the variance

ADVERTISEMENTS:

4. Taking up corrective measures to eliminate variance.

The dictionary meaning of the word ‘Control’ is regulation of the activities. Harper defined it “Compelling events to conform to the plans”.

To achieve control each of the following elements must be present:

(a) Plan,

ADVERTISEMENTS:

(b) Comparison with the plan, and

Kohler defined the word “Control” as “The process by which the activities of an organisation are conformed to a desired plan of action and the plan is confirmed to the organisation’s activities.”

Cost control has been defined by Kohler as “The employment of management devices in the performance of any necessary operation so that pre-established objectives of quality, quantity and time may be attained at the lowest possible outlay for goods and services. Such devices include a carefully prepared and reviewed bill of materials; instructions, standards of performance; competent supervision; cost limits on items and operations; and studies, interim reports and decisions based on these reports”.

ADVERTISEMENTS:

The technique of cost control involves the determination of standards in respect of each item of cost, ascertainment of actual costs regarding those very items, detection of variations of actuals from the standards laid down, analysis of these variances so as to determine the responsibility and the cause and cost of each variance, and then taking necessary action to ensure that actual costs conform to standard costs in future.

The job of cost control is not as simple as a casual reader may suppose. There are a number of problems which have to be successfully solved if cost control is to be applied in any industrial unit.

The Institute of Cost and Management Account, London define Cost Control as- “The regulation by executive action of the cost of operating an undertaking particularly where such action is guided by cost accounting”. The terms ‘regulation’ and ‘executive’ ‘action’ indicate conscious attempt of regulating the cost on the basis of predetermined ideas about what cost should be.

Top 4 Features of Cost Control

The following features of cost control are:

Feature # (a) Existence of Cost Accounting:

If cost accounting should guide executive action to regulate costs, it is, first of all, necessary to install a suitable system of cost accounting. The system introduced, should be designed to suit the undertaking.

ADVERTISEMENTS:

It should not be introduced merely because other concerns have done it, and it is fashionable to do so. The cost accounting system so installed, accomplishes one of the twin objectives of cost accounting, viz., cost ascertainment.

Feature # (b) Predetermined Standards:

Another requirement of cost control is the fixation of attainable targets of performance. The targets set, should be scientific, taking into consideration all practical aspects governing production as well as the related costs. For fixation of targets of performance, it is not necessary to introduce standard costing.

The same may be accomplished by the budgeting process also. The persons responsible for achieving the targets should be convinced that they are capable of achieving the same under normal conditions.

Feature # (c) Cost Reporting:

As pointed out above cost control does not come about automatically. Executive action for cost control should be guided by cost accounting. If cost accounting should guide the executives, there should be an effective system of reporting cost information. The reports should point significant deviations from the predetermined targets, and not merely historical costs. Cost reporting is to be accomplished at the appropriate time and not when it is too late to do anything.

ADVERTISEMENTS:

Feature # (d) Corrective Action:

Even effective and timely reporting of cost information would be of little use if corrective action is not taken then and there. Action should also be taken to see that significant deviations which are now corrected by executive action are not allowed to appear all over again. In other words, corrective action should be to prevent the recurrence of deviations.

5 Elements Involved in Cost Control System

Efficient organisation and operation of cost control system involves the following elements:

1. Setting up the targets.

2. Measurement of the actuals.

3. Comparison of actuals with the targets to ascertain variances.

ADVERTISEMENTS:

4. Analysis of variances (between the targets and the actuals) to their causes.

5. Taking such corrective actions as are necessary to eliminate the variations.

Steps Involved in Designing a Cost Control System

The steps involved in designing a cost control system are as follows:

1. Establishing norms –

To exercise cost control, it is essential to establish norms, targets or parameters which may serve as yardsticks to achieve the ultimate objective. These standards, norms or targets may be set on the basis of market research.

2. Appraisal –

ADVERTISEMENTS:

The actual results are compared with the set norms to ascertain the degree of utilization of men, machines, and materials. The deviations are analysed so as to arrive at the causes which are controllable and uncontrollable.

3. Corrective measures –

The variances are reviewed and remedial measures or revision of targets, norms, standards, etc., are taken.

Cost Control – Aspects

There are two important techniques of cost control. They are budgetary control and standard costing. These are also known as ‘systems’ of cost control.

Any scheme of cost control, whether by budgetary control or standard costing, should comprise the following aspects:

(i) Laying down targets or standards of performance.

(ii) Measuring actual performance against the standards.

(iii) Computing variances, analysing them by causes, localising them and presenting timely reports.

(iv) Enforcing accountability of the executives concerned.

(v) Reviewing periodically the standards in the light of changed circumstances, in order to prevent their recurrence.

Cost Control – Importance

In the initial stages of its evolution, the only object of cost accounting was cost ascertainment. Historical costs, about which management could not do anything, were ascertained and used for the purpose of price fixation. Gradually, however, it was felt that cost control was more important than cost ascertainment, since a post-mortem examination of historical costs was of little practical use in improving the efficiency of the undertaking.

It necessitates bringing to the notice of executives responsible for controlling costs, the strategic points at which interference is needed. Thus, cost control implies action by managerial personnel, on the basis of cost information, to see that the actual costs do not deviate from the targets or standard previously lay down.

Cost Control – Top 18 Techniques

Cost control is exercised through numerous techniques some of which are given below:

1. Standard Costing,

2. Budgetary Control,

3. Inventory Control,

4. Control of Capital Expenditure,

5. Quality Control,

6. Performance Evaluation,

7. Accounting Ratios etc.

8. Work Study

9. Market Research

10. Value Analysis

11. Production Planning and Control

12. Standardisation and Simplification

13. Automation

14. Job Evaluation and Merit Rating

15. Study of Organisation and Methods.

16. Improvement of Design.

17. Operational Research

18. Statistical Techniques

6 Key Points for Exercising Effective Cost Control

The cost control process involves setting of cost centers (responsibility centers), both personal or impersonal, followed by pre-determination of costs function-wise or product- wise. This is followed by monitoring and control and by comparing actuals with standards.

Standard costing is one of the techniques widely used for cost control purpose. In addition, budgetary control provides the basis for controlling expenditure and means to appraise, the potential profitability of an alternative course of action.

The following key points are worth mentioning for exercising effective cost control:

(i) Quantity and price standards should be set to, or be estimated for, each physical unit. The factors influencing variances should not be ignored (inadequate facilities, poor organisation and poor materials).

(ii) To make the standards realistic, all concerned should be associated in determining standard costs.

(iii) The data collected should be kept to a minimum, and proper collection and processing of cost control data are important.

(iv) The different variances, price, usage, mix and efficiency should be considered, whether they are relating to materials, labour or overheads.

(v) No amount of detailed analysis of the cost of variances can undo what has already been done; however, control measures should ensure that such mistakes are not repeated. The only way to prevent excess costs in practice is for the manager to take action before the event.

(vi) The essentials of effective cost control not only include realistic targets (based on work study data) but also flexible attitudes regarding the standards set.

Cost control does not necessarily mean reducing the cost but its aim is to have the maximum utility of the cost incurred. In other words, the objective of cost control is the performance of the same job at a lower cost or a better performance for the same cost.

8 Basic Measures to be Adopted for Effective Cost Control System

In order to carry out cost control system efficiently so as to obtain the required results, there are certain basic measures which should be adopted.

These measures may be given as follows:

1. The targets for performance of work as well as the costs to be incurred for the purpose should be laid down for each area of responsibility as far as practicable.

It would enable to locate the exact person responsible for a given state of affairs. The powers, responsibilities and obligations of each executive in the organisation should be clearly defined.

2. The target should always be fixed up in consultation with the individual responsible for attaining the target. The impression should never be created that the target is purely a result of some calculations in the accounting department. Further, the targets should be ‘attainable’ and not merely ‘ideal’.

If the targets are not attainable even in the best of circumstances, a certain amount of frustration will be created in the minds of the persons concerned and the whole object of the cost control will thereby get defeated.

3. The targets fixed in an undertaking should not be treated as permanent. They should be reviewed whenever necessary and should be revised when conditions change.

4. Collection of costs should be made by each area of responsibility and reports thereon should be drawn up similarly. These reports should clearly indicate in monetary terms the effect of efficiency or inefficiency shown by each section or department.

5. The reports should be presented sufficiently in time for necessary action to be taken. Belated presentation of reports will only give statistical information and cannot be helpful in taking an action.

6. Utmost care should be exercised while making a judgement about the efficiency or inefficiency of various persons on the basis of the reports. A single report is likely to be misleading under certain circumstances and hence a number of reports should be considered together.

7. A proper and thorough enquiry into factors leading to exceptionally good or bad performance should be made and appropriate remedial action should be taken. The main objective should be to locate and remove the factors leading to wastage and losses rather than to punish people. If there is too much emphasis on punishment, it is possible that figures will be cooked and the truth hidden.

8. A good performance should attract immediate reward and consistently bad performance should attract the necessary dis-incentive. It should also cover those whose task is to prepare reports.

Difference between Cost Control and Cost Reduction

Controlling the costs, already pre-determined on the basis of assumption of reasonable level of efficiency taking the past, present and future into account, is the main focus of cost control. The actuals are tried to be brought within the ambit of targets. Cost accounting is primarily concerned with controlling the costs so that losses and wastages are eliminated or at least minimised to the extent possible.

While cost reduction is entirely a matter which goes much beyond cost control and hence it is not synonymous with cost control at all, now cost accounting aims at cost reduction also, besides cost control. Cost reduction is a process which actually starts from where cost control ends.

Management has to ponder over in terms of bringing down costs to levels lower than the targeted ones so as to face fierce competition and exist in this highly competitive business environment.

How, without sacrificing quality or compromising with the utility of the products and services the cost can be permanently cut down, is the real objective of cost reduction. Thus, new ways and means are required to be desired, researches are to be carried out and management has to be innovative.

The main distinctions between cost control and cost reduction can be discussed under various subheadings as under, though both underline what costs ought to be:

Cost Control:

1. Objectives – Cost control aims at maintaining the cost in accordance with the established targets or standards.

2. Approach – Cost control locks dynamism since it aims to attain lowest possible costs under existing circumstances.

3. Nature – Cost control is a preventive function. Under it, costs are optimized before they are incurred.

4. Emphasis – In case of cost control, the emphasis is on the past. It aims at keeping the costs within the limits already set. In case the cots reach the target level, the objective of cost control is achieved.

5. Assumptions – Cost control assumes the existence of certain standards or norms which are not challenged.

Cost Reduction:

1. Objectives – Cost Reduction is directed to explore the possibilities of improving the targets or standards themselves. It challenges all standards and makes continuous efforts to better them.

2. Approach – Cost reduction is a continuous process and recognizes no condition as permanent. It involves a continuous process of analysis and tries to find out new means to achieve reduction in costs.

3. Nature – Cost reduction is corrective function. It operates even when effective cost control system exists. It presupposes that there is always a room for reduction in the achieved costs.

4. Emphasis – In case of cost reduction, the emphasis is on the present and the future. The emphasis is not o what have been the cost but what could be the possible improved in the costs. Thus, there is no end to cost reduction.

5. Assumptions – Cost reduction assumes the existence of concealed potential savings in the standards or norms which are therefore subject to constant challenge or improvement.

Thus cost control is only a means to achieve the end of cost reduction.

Some of the other differences are –

1. Cost control seeks adherence to standards. Cost reduction is a challenge to standards. It assumes that there are chances of improvements in predetermined standards.

2. Cost control is the achievement of predetermined costs. Cost reduction is the achievement of real and permanent reduction in cost.

3. Cost control is concerned with predetermined costs, comparing it with actual costs, analysing the variances and taking corrective action. Cost reduction is concerned with improvement in performance.

4. Cost control is a preventive function. It aims to prevent the costs from exceeding the predetermined costs. Cost reduction is a corrective function. It challenges the predetermine costs and seeks to improve the performance by reducing cost.

5. Cost control is achieved once the costs do not exceed the standards. Cost reduction is a never ending process.

6. Standard costing and Budgetary control are the important tools of cost control. Value Analysis, work study, operations research, simplification and standardisation are the important tools of cost reduction.

Cost Control – Well-Known Myths and Facts

There are a number of misconceptions regarding cost control. Cost control may not be beneficial in every situation.

The following are the well- known myths (M) and facts (F):

1. Controlling costs means increasing profitability. (M)

Cost control measures lead to decreased profitability, particularly when such control measures are unimaginatively implemented in an organization. (F)

2. Cost control is needed the most when the company is not doing well. (M) In fact, injudicious spending decisions are taken mostly when the going is good. (F)

3. Costs are to be controlled at the point they are incurred. (M) Needless to say, decisions to incur costs are always made elsewhere. (F)

4. Costs are to be controlled at the time they are incurred. (M) Again, in most cases, the timing of control is different from that of incurrence of cost. (F)

5. Costs can be classified as controllable and non-controllable. (M)

In fact, controllability of costs would depend on the person in charge, the level of the person in the organization, particular situations, and the timeframe. No costs are really non-controllable, at least in the long run. (F)

6. Costs can be reduced or at least prevented from going up in absolute terms. (M)

The reality is that in an ongoing healthy organization, costs always tend to go up in absolute terms. Cost reduction can only be relative to the level of activity. (F)

7. Cost control is only a short-term measure and it cannot be sustained for long. (M)

Cost control efforts, on the contrary, can and should be interlocked with the long-range corporate planning of an organization. (F)

It is widely believed that costs can be controlled by administrative circulars and directives, and it’s the cost accountant’s responsibility to keep a check on costs. But these are misconceptions. Cost control requires collective effort from the employees at each phase of production.

Benefits for Exercising Cost Control and Cost Reduction

Exercising cost control and cost reduction becomes imperative when a company’s financial health is deteriorating. Even those companies which are running well have to take cost control and cost reduction measures to sustain continuous growth.

Exercising cost control and cost reduction offers the following benefits:

i. Better utilization of resources.

ii. To prepare for meeting a future competitive position.

iii. Reasonable price for the customers.

iv. Firm standing in domestic and export markets.

v. Improved methods of production and use of latest manufacturing techniques which have the effect of rising productivity and minimizing cost.

vi. A continuous search for improvement creates proper climate for increased efficiency.

vii. Improves the image of company for long-term benefits.

viii. Improves the rate of return on investment.

Cost Control – 7 Main Advantages

The advantages of cost control are given below:

1. Achieving the expected return of capital employed by maximising or optimising profit.

2. Increase in productivity of the available resources.

3. Reasonable price for the customers.

4. Continued employment and job opportunity for the workers.

5. Economic use of limited resources of production.

6. Increased credit-worthiness.

7. Prosperity and economic stability of the industry.