Cost structure analysis is a common process for production manufacturing companies. The activity reviews all types of costs necessary to complete production processes. Different cost structure analysis methods include a review on the types of costs, cost behavior, and break-even analysis. Each method focuses on a different part of the company’s business activities in order to define how efficiently and effectively the company completes activities. Other companies can use this analysis as well in order to improve efficiencies.
Many types of costs exist in a company. Cost structure analysis typically starts with a review of each type. Common types of costs include sunk, marginal, and fixed costs, which can be the most expensive in production and manufacturing. Sunk costs represent money spent that cannot be recovered by any business action; marginal cost is the additional cost to produce one more unit; and fixed costs are those items that a company needs to manufacture goods, such as buildings and equipment. Identifying these costs helps the review process in later methods.
Cost behavior defines how a company’s costs act in terms of production and manufacturing activities. The definition of cost behavior in cost structure analysis helps managerial accountants create a cost accounting system. Variable costs change with the production volume in a company. These costs can be utilities, labor hours, or direct materials used in producing a good or service. Fixed costs do not change over time and include items such as depreciation, rent, property taxes, or management salaries.
Break-even analysis helps a company determine how much sales revenue is necessary to cover all operating costs. This activity is rather important in cost structure analysis. Many companies also use this formula define the sales necessary to achieve target income. The basic formula here is fixed cost plus total variable cost. Total variable costs are production output times the per-unit variable cost.
Managerial accountants often engage in cost structure analysis activities on a frequent basis. Accountants help a company determine if a product or product line is generating profits sufficient enough to pay for the costs and bring in profit. Companies can also benchmark their income performance against other businesses. This allows the company to understand if it is making enough profit based on its cost structure. Reducing costs is one of the two ways a business can improve profits in order to generate better financial returns.