TCM Management Accounting Costing Techniques

TCM Management accounting costing techniques Management accounting costing technique article review: Target cost management (TCM) According to the interview conducted by Louise Ross for the journal of Financial Management with a senior lecturer in accounting at the Essex Business School named Lisa Jack, there is an untapped potential for individuals within the food industry to adopt target cost management (TCM) to maximize organizational profitability. The food industry has one of the slimmest profit margins of all modern enterprises.

Profits depend on high-volume sales and luck -- producers must hope that there is no threat from high oil prices, political instability, or poor growing conditions so they can thrive. "The industry is inherently volatile: weather, disease or accident can destroy a crop or a herd and macro factors such as agricultural policy, tariffs and subsidies also influence commodity prices" (Ross 2008, p.43).

Jack suggests that while many successful producers are using "an intuitive form of target cost management (TCM), working backwards from assumed market prices," and that their "contracts between producers and various corporate partners (processors, distributors or retailers) are based on cost targets," she believes that a more formal TCM approach could behoove agricultural producers (Ross 2008, p.42). The article, which takes the form of an interview between Jack and Ross, sets forth the notion that TCM need not be confined to traditional forms of manufacturing.

Jack defines TCM as a process whereby "users establish what the market will pay, then factor in what profit they need in the long-term to arrive at the target cost. Then they examine their processes to see whether that target is achievable. Once committed to a project, they continually monitor and re-engineer processes to reduce costs" (Ross 2008, p.42). Creating leaner processes is the core of TCM. By its very nature, agriculture is dependant upon financial benchmarking in relation to changing circumstances.

The difficulty of predicting the future conditions of soil and weather limit farmers' ability to establish a clear figure as to what price the market will support, yet still cover input costs. This is why Jack admits "to be fair" there are considerable differences between the highly structured Japanese factories where TCM was first implemented and even modern farming, although the need for re-engineering in relation to change is an essential component of TCM's applicability (Ross 2008, p.42).

TCM can be problematic when "prices are imposed by powerful customers," such as the government or by powerful exterior market forces such as the weather (Ross 2008, p.42). It also can be less accurate "where products are complex, possibly including components that are themselves subject to TCM" and other independent market forces (Ross 2008, p.42). While agricultural products may seem very simple on their surface, the components that are involved in their processing, from the development of seeds to the shipping of the final product is highly complex.

The prices of processed raw agricultural products are dependant upon the cost management techniques used in every component of the product. "The nature of crop and livestock life-cycles means there are fewer and more significant opportunities to intervene, as opposed to the continual tinkering that can occur in a factory" (Ross 2008, p.42). However, Jack believes that inadequate record-keeping may also be to blame for farmer's reluctance to use TCM in the industry. Even if TCM must be modified for agriculture, this does not negate its applicability.

Farmers must learn how to make TCM work for them. Certain factors make it more difficult to identify target prices and costs, but they are not reasons to avoid implementing TCM. Rather, using TCM could encourage farmer to adopt more innovative practices and help to manage risks inherent in this industry. Jack believes that the resistance to TCM is more endemic to the culture of the agricultural industry than due to real problems with its use in agriculture.

The formula for TCM is fairly simple, despite the fact that only major agribusinesses tend to use it: "anticipated price minus required return equals target cost" (Ross 2008, p.43). Jack advises using sensitivity analysis by running the formula with different possible prices to guard against the extreme volatility of food prices that farmers face, in contrast to manufacturers. Jack states that finding the required return only seems problematic because "return on capital is a concept rarely used in farm accounting.

Typical farm accounts identify the operating costs for an enterprise as a whole, rather than specific activities. Gross margin is the output minus variable costs, but too much expenditure is considered to be fixed costs -- including labor and machinery, which arguably aren't fixed and are certainly more manageable than this terminology suggests. A relevant cost approach that includes overheads and fixed costs would have more merit" and.