Costing in the food and beverage industry
The ability to calculate true costs and margins is a must for any business – especially ones that deal with raw material volatility and where product spoilage is at stake. Due to the nature of perishable goods production, costing within the food and beverage industry can be quite the challenge.
Factors such as seasonality and availability of raw ingredients in addition to operational costs and overhead culminate to a complex, ever-changing real cost to any given unit that is produced. As a result, having not only the correct approach, but also a system to support said approach, is crucial. By effectively costing, you can easily gain insight into your company’s KPIs and bottom line tracking variable costs, overhead, inventory pressures, and unexpected changes in prices.
Let’s take a closer look at how different costing approaches can help you paint an accurate picture of your business’ profitability and increase performance.
Actual Costing vs. Standard Costing: what you actually need to know
As the name implies, actual costing involves knowing exactly what materials are used in a particular production batch as well as how much each material actually costs. Costs are calculated on a per batch basis so you know exactly how much you’ve paid for raw materials and producing a particular lot at any point in time.
Consequently, actual costing allows real-time visibility into costs and allows you to compare costs not only across different lots, but also between quarters or seasons.
Actual costing in practice
In order to attribute costs to raw materials in real time, costs of raw materials are determined based on each lot (batch). Conducting lot controls on a rolling basis allows costs associated with each lot to be determined; the cost of each lot being contingent on the cost of purchased raw materials at the time of receipt. By lot costing, a business can determine that a particular production cycle amounts to a specific sum, which can vary by day, week, quarter, or season.
Actual costing within the food and beverage industry
The food industry consists of a constant production line: raw materials are received at the facility, prepared into finished goods, and then shipped out. The rapid rate at which ingredients are processed into food products gives rise to implications for perishable goods businesses. This is mainly due to the conflict between when lot costs can be calculated versus when said lots can be shipped out. In order for actual costing to be accurate, it is necessary to determine the cost of each lot before each lot is shipped from the manufacturing facility. That being said, a business cannot ship inventory out of a facility while the manufacturing order is not complete, or until a predetermined lot is produced. The inability to reapply actual costs for shipments that are shipped before the manufacturing order is completed impedes shipment out of the facility and can therefore delay shipping to retailers.
Standard costing, on the other hand, involves establishing a constant cost and accounting based on that predetermined cost. Standard costs are attributed to each raw material involved in the production process and are used to calculate costs, regardless of what the price for those materials is at any given time. Inevitably, what a business pays for raw materials is often a different price than the predetermined standard cost. This difference, referred to as variance, is calculated by comparing the cost of raw materials with the standard cost and can be either positive or negative.
Standard costing in practice
With standard costing, all costs pertaining to a manufacturing order are issued once it is completed at the end of a production cycle. Given that standard costing always uses constant costs, it allows a company to forecast the costs associated with finished products. The raw materials for a production are the same regardless if the manufacturing order is inputted day of or at any other point – meaning that we can preemptively determine how much a production cycle is going to cost. While standard costing might seem like a straightforward solution to accounting for production costs, it too has its limitations. Accounting for raw materials incoming at different times complicated the variance calculation; which leads to not knowing what a production cycle costs until it is over.
Standard costing within the food and beverage industry
Unlike actual costing, the standard approach is rather insensitive to fluctuations in the price of raw materials. As such, it is a good alternative for businesses that do not have the infrastructure to conduct effective lot control. That being said, the purchase price and manufacturing variances not only delay business processes, but also do not allow for true costs to be used in strategic decision making. The dire need to find and calculate these variances are also especially imperative when it comes to the quality of food products as well as industry trends and seasonal fluctuations.
Client in Action
Given that actual costing provides greater visibility into the true costs of production across cycles and even seasons, it is no surprise that businesses are starting to adopt this costing method. Transitioning from standard to actual costing has also become increasingly prevalent in the food and beverage industry. One of our long-time customers did exactly that. Read on as we share how we helped a consumer packaged goods company configure their actual costing environment to power their protein processing operations.
Originally, this particular client could physically ship finished goods from the manufacturing facility but could not record the shipment in Infor M3 until the manufacturing order was complete. This created a conflict between the company’s production needs and the accounting requirements to support financial decision making and forecasting.
The Doppio team was able to break down actual cost management reports using Birst, an Infor M3 analytics and AI tool that serves as the bridge between application and development teams.
First, the Doppio team bridged the gap between the application and development requirements using Infor M3 Birst. From here, our consultants were able to configure the existing costing environment in order to streamline the actual costing approach for the business. Furthermore, the Doppio team implemented integrations in order to provide better visibility into the actual lot cost for each production cycle. As a result, our client now effectively uses actual costing to account for their production as well as to determine the true costs and enable informed business decisions.
As we’ve seen throughout this blog, there are advantages and implications for both costing approaches. Depending on the industry you operate in, as well as your individual company operations, one costing approach may be better suited than the other.
Get in touch with Doppio Group by filling out the contact form to discuss how we can configure your Infor M3 environment to meet not only your accounting requirements, but your business needs as well.