Cost Control

What is Cost Control?

Cost Control can be defined as a tool that is used by the management of an organization in regulating and controlling the functioning of a manufacturing concern by limiting the costs within a planned level and it involves a series of activities that begins with the preparation of a budget, evaluation of the actual performance and ends with implementing the necessary actions that are required in rectifying discrepancies if any.

Explanation

This is a mechanism that helps the management in regulating the costs of a manufacturing unit. This involves the determination of necessary standards, ascertainment of actual results for comparing the same with the expected data, analyzing variancesAnalyzing VariancesVariance analysis is the process of identifying and analyzing the difference between the standard numbers that a company expects to accomplish and the actual numbers that they achieve, in order to help the firm analyze positive or negative consequences.read more, and establishing a necessary action that must be taken.

Purpose

The management uses these technologies to produce a product at the lowest possible cost by identifying and eliminating any sort of unnecessary costs and yield more profits. In other words, the use of this is to prevent cost waste from taking place and execute business operationsBusiness OperationsBusiness operations refer to all those activities that the employees undertake within an organizational setup daily to produce goods and services for accomplishing the company's goals like profit generation.read more within the pre-determined cost standards.

Cost-Control

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Characteristics

  1. The mechanism of cost control can not be exercised if the costs reported are not prepared and presented on time.
  2. Adequate and proper delegation of authority is essential for effective control.
  3. Deciding responsibility centersResponsibility CentersThe term "Responsibility Center" refers to a specific segment or unit of an organization for which a specific manager, employee, or department is held accountable and responsible for its business goals and objectives.read more is highly crucial in the case of an effective control system.
  4. The relevance of costs that are controllable in nature is also a vital characteristic of an effective cost control system.

Strategies

  1. Active participation of each and everyone in the organization is the first strategy of these systems. The management must ensure that every member of an organization is actively involved in the implementation of a cost control system.
  2. The next strategy states that the management must take a fresh look at how they can save more on the energy costs.
  3. In the third strategy, the company must ensure that it is successful in reducing its office footprints, i.e., if it’s fully utilizing all its commercial space.
  4. The fourth strategy states that the company must work with professionals and consultants on a project to project basis.
  5. The fifth and last strategy states that the company must train and challenge its accounting as well as finance employees to speed up on the cost control system.

Examples of Cost Control

ABC Limited has a particular project in line. The company is unsure of taking up the project in question. Enlist these steps of the company must take up for confirming the project.

ABC Limited must take the following steps:

  1. The company must use appropriate techniques like reference class forecasting for validating cost estimatesCost EstimatesCost estimate is the preliminary stage for any project, operation, or program in which a reasonable calculation of all project costs is performed and thus requires precise judgement, experience, and accuracy.read more of the project.
  2. The company must validate planning pertaining to the business, project, and operations and then design a budget for the same.
  3. The company must take appropriate financial controls and monitor costs from time to time.
  4. The company must report the performance of the project and ensure that there is full governance of the same.

Tools of Cost Control

  1. Cost Estimate: This tool is used in the initiation phase. In this phase, the users are responsible for evaluating the financial viability of a particular project.
  2. Budget: This tool is used in the planning phase. In this phase, the users plan out the work by considering the overall cost estimates and converting the same into a budget.
  3. Cost Monitoring: This is used in the execution phase. In this phase, the users monitor their costs in order to check if there is not any sort of overspending or unnecessary spending so that they can keep the expenditures in line with the budgetsBudgetsBudgeting is a method used by businesses to make precise projections of revenues and expenditure for a future specific period of time while taking into account various internal and external factors prevailing at that time.read more.
  4. Financial Evaluation: This is used in the closing phase. In this phase, users evaluate if a particular project has met the pre-determined financial targets or not.

Importance of Cost control

This system is highly helpful for companies in getting rid of the unnecessary costs involved in a particular project. With this, companies can effectively eliminate wastage of costs. It helps the users in evaluating the financial viability of a specific project. It helps the users in deriving the cost estimate and accordingly design a budget for a particular project. Users can use a cost-control mechanism for regulating and monitoring the costs incurred in a project from time to time.

Difference Between Cost Control and Cost Reduction

  1. It can be defined as a process that is used to control the costs, whereas cost reduction is a process that is used to reduce or minimize the overall cost of production.
  2. Cost reduction is a permanent process, whereas cost control is temporary in nature.

Advantages

  1. It enhances the creditworthiness of a company.
  2. It helps in enhancing the return on capital employedReturn On Capital EmployedReturn on Capital Employed (ROCE) is a metric that analyses how effectively a company uses its capital and, as a result, indicates long-term profitability. ROCE=EBIT/Capital Employed.read more for an organization.
  3. It helps the management in increasing productivity with the available resources.
  4. This mechanism helps an organization in enhancing the volume of profits with minimum sales and output.
  5. This system helps the employees in sourcing jobs continuously.
  6. This system helps the employees in earning reasonable remuneration and incentives.

Disadvantages

  1. It can sometimes lead to mismanagement, which can further lead to some severe and adverse problems for an organization.
  2. The probabilities of human errors in the cost control system can lead to serious inaccuracies, and the management might end up making certain decisions that can ultimately impact the profitability of an organization.

Conclusion

This mechanism is beneficial for organizations as it helps them in regulating and controlling the costs that are involved in a particular project. It can also be taken into use by users for determining if the project in question is financially viable or not. This mechanism also helps in enhancing the creditworthiness of an organization and also contributes to the prosperity, wellness, and economic stability of the overall industry.

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