Do You Know What is Cost Structure

Do You Know What is Cost Structure

As a business owner, understanding cost structure, which is the types and the related ratios of variable costs and fixed costs that your company has incurred, is crucial. You may use this concept in smaller units; for example, you can use it in separate clients, products, services, departments, as well as in different geographical areas. If you know cost structure well, it is a powerful tool. However, its concept is not something easy to understand, particularly if you are not familiar with accounting (Also see An Overview of Accounting Assumptions), and you may need a lot of time to master it. Hence, a better choice is to seek help from an accounting firm Johor Bahru. 

The cost structure is very helpful in determining the prices of the products you sell or the services you offer if the pricing strategy that you are using is a cost-based one. Also, it can help you in highlighting the areas of your business that you may have better control of their costs or those that you may spend fewer costs on them. Hence, it is clear that the concept of cost structure is under the managerial accounting, and it is hardly related to financial accounting. 

If you want to determine a cost structure, you have to identify the cost incurred, which is related to a particular cost object. Some examples of cost objects are the product, service, production line, as well as clients. Each cost object has its own cost structure. For instance, for the cost structure of products, the fixed costs include manufacturing overhead and direct labour, while the variable costs are commissions, direct materials, piece-rate wages as well as production supplies. On the other hand, for the cost structure of clients, the fixed costs are warranty claims and administrative overhead for customer service, whereas the variable costs are returned products the costs of goods and services that you have sold to your client, credit taken and others. 

If you want to assign the costs more closely to the cost structure of those cost objects which are in question, you might need to apply the activity-based costing (Also see Basics of Cost Accounting) method as some of the costs mentioned above can hardly be defined. 

Changing the cost structure of your business is one of the ways that you can change the company’s competitive position. You may do so not only by altering the entire cost structure but also by adjusting the parts of fixed and variable costs. As an instance, you may outsource certain functions of a department to a service provider or a supplier who will charge you based on the amount of work you give them. This means that you have changed a fixed cost to a variable cost, and such a situation will make the breakeven point of the company to become lower. Therefore, your company will still be able to generate profits even though the sales levels are low. 

As a business owner, you will also need to know more about the capacity levels related to the current fixed cost structure of your company. This enables your business to gain profits by decreasing the prices adequately and maximise the use of a specific fixed cost item. As an instance, if your company has spent a high cost on operating an automated machine which has a high capacity, but your workers do not use it much, then you should get more orders to increase the use of that machine. This is for you to increase the sum of profit generated from it even though you get low prices for the orders. To achieve this, you need to have detailed knowledge about the cost structure of your business. 

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