2 Overview to Product Costing

This chapter contains these topics:

2.1 Objectives

  • To understand product costing and its overall importance in a manufacturing environment

  • To learn about standard, actual and user defined cost methods

  • To learn about the differences between frozen and simulated costs

2.2 About Product Costing

Working with the Product Costing system consists of the following tasks:

  • Reviewing bills of material and routings

  • Setting up product costing

  • Creating simulated costs

  • Working with simulated cost components

  • Updating frozen costs

  • Reviewing costing information

  • Working with additional costing features

2.3 About Flex Accounting

Flex Accounting allows you to flex the Business Unit and Subsidiary sections of the general ledger account structure when performing a frozen cost update, WIP revaluation, manufacturing accounting, variance accounting, orderless completion accounting and actual cost close accounting.

2.4 What Are Standard Costs?

You can work with a variety of cost methods in the Product Costing system. However, the Manufacturing Accounting system uses the standard cost method (07), unless the actual cost method (02) is indicated on the manufactured item. This method represents the expected (target) cost of an item for a specific period of time, such as quarterly, semi-annually, or annually.

With standard costing, you estimate costs for each end item assembly and manufactured part on a level-by-level basis before production begins. These cost estimates are based on both past performance and analysis of future conditions.

Standard cost:

Net Added Cost Total Cost
  • Labor

  • Overhead

  • Outside Operations

  • Extra Costs

  • Materials (for purchased parts only)

  • The item's net added cost

  • Total cost of lower-level components

The net added cost represents the cost to manufacture an item at this level in the bill of material. For manufactured parts, the cost includes labor, setup labor, machine, outside operations, and cost extras, but not materials (lower-level items). For purchased parts, the net added cost includes the cost of materials. The total cost of an item represents the sum of the net added cost and all lower-level component item costs.

2.5 Why Maintain Standard Costs?

By defining and monitoring product costs, you can measure your company's current manufacturing performance against your standard (target) costs. Product costing provides information about the dollar investments tied to your materials, work in process, and physical inventory. You can use this information to determine pricing on end items and service components.

2.6 Simulated Versus Frozen Costs

Simulated costs represent a "what if" analysis for a given cost method. You might want to calculate simulated costs because of changing factors in the business environment, such as labor rates or the cost of raw materials. You can simulate cost change scenarios (rollups) as many times as needed before you finalize the changes.

You finalize the changes by performing a frozen update for the given cost method. A frozen update copies your simulated values and makes them your frozen costs, and updates the Cost Ledger table (F4105) with the total cost. These costs remain in effect until you update them with another frozen update.

You can simulate costs using the standard cost method 07 or any other cost method (other than 02). The Manufacturing Accounting system uses the standard cost method to establish costs for shop floor transactions, unless actual costing is indicated on the Cost Ledger record for manufactured item.


Do not simulate and freeze the 02 cost method.

2.7 What are Actual Costs?

Using an actual cost method to determine ROI, the same data of total parts, machine hours, and labor hours are used. However, instead of using standard costs of labor and machine, actual costs are used.

An important difference from standard costing is how actual costing considers hourly cost of machines and labor. Standard cost is calculated from an hourly cost of machines and labor multiplied by the cycle time of the part. With this calculation, cost absorption is for only that portion of the time when the machine is in use. There is no cost penalty for underutilizing machines and labor. More important, there is no cost benefit for using machines and labor more efficiently. All cost is attached to value-added hours and new machines must show significant reduction in amount of hours to be justified.

In contrast, the actual cost method shows the actual cost of current operations and includes incentive to operate new machines more efficiently. The actual cost of labor is the wage and benefits cost per hour rather than using standard labor hours.

2.8 What are Parent Items?

A parent item is a product sold as a completed item or repair part. A parent item is subject to a customer order or sales forecast.

The parent item setup tells the system whether this item will be treated as a standard cost or actual cost item.

  • Sales/Inventory Cost Method - The item cost revisions (P4105) sales/inventory cost method is the key field. An actual cost item must have a sales/inventory cost method 02 average cost. The cost method is captured in the LEDG field of the work order tag file (F4801T) when a work order is created and determines whether the work order is treated as standard or actual cost.

  • Inventory Cost Level - The inventory cost level 3 (cost by lot/location) is recommended for an actual cost item as well as cost level 2. Inventory cost level 3 is not supported for standard cost items.

  • Extra Costs (F30026) - Extra costs can be set up for an actual cost item in the P30026 by inputting them on the parent item number. For an actual cost item, input is allowed directly into the frozen cost fields, without running P30835 as required by standard cost.

2.9 What Are Cost Components?

Cost components represent the individual costs that make up an item, for example, material, labor, overhead, and extras. Material, labor, and overhead costs are automatically calculated by the system. Extra costs, such as electricity, are manually controlled.

Use cost components to maintain complete item costing information. You can use them to set up simulated cost scenarios to help plan for future cost changes, and to display the simulated or frozen net added and total component costs for any item.

In addition, you can:

  • Allow for extra add-on costs related to the manufacturing of a product, such as electricity, insurance, water, or warehouse space.

  • Review specific calculations used to determine cost amounts for any item.

  • Maintain costs by branch for multi-facility processing. Multi-facility processing allows for different costing values based on regional or business variations.

  • Set up costing rates that represent cost elements.

  • Define additional cost factors to include in product costing calculations.

Components for an actual cost parent do not have to match the cost method of the parent. Actual cost will use the cost per the sales/inventory cost method for the component from P4105. The P30026 frozen cost is not used by actual cost.

Component cost will be calculated at the time of material issue, so the Cost Ledger (P4105) must be populated before the issues program is run. The user should also keep in mind that the P4105 cost for all subassemblies must be populated before they are issued to the parent as well.

2.10 What is WIP Revaluation?

WIP Revaluation Program - Work in Process Revaluation (P30837) is an optional functionality that can be activated in the Frozen Cost Update program (P30835) to revalue the Work-In-Process (WIP) production costs for all open work orders in the Production Cost file (F3102). The revaluation is based on the latest standard frozen cost updated for a manufacturing item. The main purpose of the WIP Revaluation is to minimize the generation of work order variances.

Some industries and businesses must be able to revalue their work in process inventory whenever material or labor costs change. Not doing this revaluation causes a mixture of old and new costs within a work order, which they may want to avoid. This cost change might be caused by a business decision to update standard costs to reflect changed or specific circumstances and to maintain realistic work order manufacturing costing.

The report displays any differences between the original WIP values and the new WIP values. You can set a processing option to create WIP Revaluation journal entries in the Account Ledger table (F0911) for differences between the old and the new WIP values. You can let the system supply the default work order number in the Subledger field in the F0911 file.

The WIP Revaluation program does not revalue on-hand inventory and cannot be performed for manufacturing closed work orders. Closed work orders are characterized by a value of 3 for the Variance Flag field (PPFG) in the Work Order Header file (F4801).

If you use standard costing, performing an automated WIP revaluation ensures that work in process inventory always reflects any updates to component and labor costs, and eliminates artificial variances that are generated by cost changes in the middle of a work order life-cycle. It also makes manual journal entries for WIP revaluation necessary.

Before and without WIP Revaluation, when cost changes are done in the manufacturing standard costing module, users are allowed to preview the calculated new standard costs before executing a final cost update that replaces the old standard cost.

When the Frozen Cost Update is run (P30835), several files are updated and journal entries are created to reflect the new balance on hand. Because cost changes are done to items processed in a work order, if costs are changed during the life cycle of these work orders, Other Variances are generated for such orders in Production Cost file (F3102); therefore, journal entries accounting for those variances will be created when running Work Order Variances program (P31804).

Because WIP Revaluation is run from the Frozen Cost Update Program, the Proof or Final modes of this program command the execution of the calculations and data update. Proof mode is strongly recommended, as the system performs all calculations and displays the results on the report, thus facilitating for users a preview of the changes before these become final. In Final mode, the program updates the Production Cost file (F3102) and creates final journal entries for changes in work-in-process costs in the Account Ledger file (F0911).

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