Cost control and cost reduction are two phrases that are often utilized interchangeably. Hence they possess varied definitions. These two represent a crucial role in cost calculation, acquiring a steady focus on administration. The key difference between cost control and cost reduction indicates that cost control is retaining expenses at assessed statuses. In contrast, cost reduction intends to reduce the unit expenditure of production without agreeing on the quality.
What is Cost Control?
Cost control is an exercise of specifying expenses and supervising them. This begins with the allocating practice at the start of the year, in which costs and earnings are calculated for the following year. At the period of this year, these will be documented, and outcomes will be drawn parallel at the end of the year. However, cost control is nearly connected to allocating, comparing allocated products, and calculating variance. Cost control is an essential result of these operations as the incurred expenses over the accounting duration should be compared against anticipated outcomes, and the differences should be recognized to take future determination. Hence, cost control is an essential determination acquired by the administration. Cost control is mainly focused on expenses that surpass the anticipated cost. A situation like this triggers negative differences, which will be accepted into the concentration of administrators by the cost accountant to ensure that the administrators can make an essential determination to enforce punitive actions. Cost control does not exclusively refer to cost reduction; retaining the expenses at the prevailing status is also necessary. Cost control needs to offer equivalent concentration to both encouraging and negative discords. For example, if certain expenses possess a significantly increased encouraging variance, this implies that the targeted cost at the time of allocation is too high. The budget should be reworked in such a condition, even though no activity should be acquired based on the incurred expenses.
What is Cost Reduction?
This procedure strived to reduce the cost per production unit without agreeing on the quality. Increased costs lessen profit. Hence, frequent evaluation of expenses should occur to reduce their adverse effects. Using an illustration: Mr. A is a car manufacturing firm that buys many parts from several suppliers, including a single tire supplier. At the start of the year, Mr. A allocated 2,500 tires which cost $750 each. Hence, six months into the year, his supplier increased the cost of a tire to $1,250. Mr. A bought 1800 tires due to the elevation in price. As such, the outcome variances will be:
- The anticipated total expense for 2,500 tires will be $1,875,000.
- The expense for 25,500 tires (700 × $750) +(1,800 × $1,250) will amount to $2,775,000.
- The variance would be $900,000.
Administration can obtain the following activities to ensure that the variance is reduced for the next year through mediation with the supplier to take down the cost or end dealings with the supplier and obtains a new supplier who trades tires at a reduced cost. In such an event, the administration must be extremely cautious and not be enticed to decide exclusively based on monetary indicators and qualitative aspects. Using the illustration above, Mr. A’s firm may be a well-reputed world rank car manufacturer and had been buying tires exclusively from the supplier for many years for the proven grade. A comparable real-life firm illustration is Toyota buying tires for their automobile from Goodyear. Suppose the supplier creates a quality item compared to other suppliers and can provide all the firm’s demands. In that case, it will not be a good judgment to end a business association due to an elevation in price. However, performing cost control and reduction after a detailed deliberation of their impacts on expenses is essential.
Difference Between Cost Control and Cost Reduction
- Cost control is the structure of retaining expenses at the calculated level. Cost reduction strives to reduce unit production expenses without adversely influencing the grade.
- Cost control is enforced for the complete expenses. Cost reduction is concentrated on unit expenses.
- Cost control is a preventative standard. Cost reduction is a punitive standard.
- The result of cost control can be cost reduction or amending the past declared criterion. The result of cost reduction has to do with reduced expenses.