Product cost controlling (or product costing) is an essential task of corporate management to create manufacturing cost transparency and efficiency. Since product costs and consequently corporate profits can be influenced by an effective product cost controlling, it is very important for businesses to manage product costs by steering manufacturing cost structures, production deviances contribution margins or losses, among other things.
If product costing is used in the right way, it can help support these purposes to achieve the planned profitability. Product cost controlling has traditionally always been of great importance to manufacturing companies. But now it has gained strong relevance in other industries such as highly standardized service businesses, too.
From the early beginning SAP offered applications for product cost controlling in their ERP system. Fundamentally, these functionalities are highly integrated into the SAP Controlling (CO) and SAP Production Planning (PP) structures and value flows. This blog post summarizes the SAP solutions for product cost controlling and the innovations in SAP S/4HANA.
SAP product cost controlling consists of two components: Product cost planning (cost estimation) and cost object controlling. Both pillars of SAP product costing will be described in more detail in the following.
SAP Product Cost Planning is the essential part of product costing
The starting point of SAP product costing is the order-neutral product cost planning. Aim of this component is to estimate product costs from a single assembly or finished product to the whole product range of all plants of a company. You can calculate the cost of goods manufactured (COGM) and the cost of goods sold (COGS) and structure them by customized cost components according to a manufacturing view and/or a primary cost view to get a deeper insight into origin and type of the product costs. The basic building blocks of the product cost estimates are bill of materials, routings, activity type rates and surcharge rates by cost centres. You can imagine that data quality of these building blocks is from essential importance for the information value of cost estimation. Therefore, product costing approaches always must commonly be elaborated between overhead cost controlling, production controlling and supply chain department.
Via the definition of specific costing variants, it is possible to configure several cost estimates for different purposes.
The most prominent cost estimate here is a determined costing variant which both displays the standard product costs of the article spectrum as controlling standard for standard cost accounting (relevant for cost centre, production order and contribution margin steering) and updates the standard price in the material master for inventory evaluation. Such standard cost estimate is commonly done before the financial year, but we regularly see uses cases where companies calculate these standard cost estimates monthly to ensure more actual data.
With the functionality of parallel valuation standard product cost estimation can be setup for a legal and a group calculation. The legal calculation is the view of a legal entity and serves the evaluation of inventories on this level. Intercompany material value flows include transfer prices in this local view. Legal cost estimation regards companies from the group supply chain similarly to third-party companies. Disadvantage of this view is, that no transparency over the whole group value flow is given and thus no end-to-end information for COGM or COGS can be derived. This is the aim of the group product cost estimate by which a calculation is set-up which includes the product costs over the legal entity boundaries and eliminates cross-company transfer-price markups to get World COGS information. In addition, group product costing delivers a breakdown of assembly costs into their original components for high cost transparency on group level.
Independent from this major product costing instruments further costing variants can be designed which can serve purposes like cost simulation for specific manufacturing scenarios, approximation on actual cost views (which can be compared over the timeline) or are basis for price calculation, to name just a few.
Cost object accounting provides product cost controlling information on an order level
Alongside product cost planning, cost object accounting forms the second complex of topics in product cost controlling. While product cost planning delivers article-based cost estimates, the focus of cost object accounting lies on the controlling of production cost units. Which cost unit is used is dependent from the specific production environment. For shopfloor manufacturing the controlling object is the production order, for serial or batch production controlling takes place on the product cost collector and in make-to-order the cost object is usually a customer order or a customer project. Common for all types of cost object accounting is the determination of costs at different points during production process and the calculation of the resulting cost object deviations. Cost object controlling includes preliminary costing, concurrent costing, and final costing. Usually, a preliminary cost estimate is made to determine the planned costs of a cost object at the time the cost object is created. Planned costs are the target costs calculated for a specific order in relation to the corresponding planned quantity. Concurrent costing allows you to view and analyse the actual costs of individual cost objects at any time, even before the cost object or period is closed. The final costing of a cost object is performed during the period-end closing process. After final costing full actual costs are allocated and can be compared with the target costs to perform cost analyses and deviation analysis, among other things.
Different sub-components of SAP cost object accounting
In SAP, different sub-components are offered in the component of cost object accounting:
In Product Cost by Period, the focus is on the serial or mass production of products that change very little in their composites or ingredients. At some sites, the sheer volume of production orders is so high that it is nearly impossible to monitor costs for each order separately. This can be the case in repetitive production (e.g., for car tires), where there is little significant difference between the individual orders. In this case, instead of the manufacturing order capturing costs, you can use a product cost collector to capture the costs for all manufacturing orders working with one production version. The product cost collector is a long-living cost object that collects costs for all assigned orders that are then settled at period close. The product cost collector is initially only used to collect product costs over a certain period. The basic idea is that it is not the result of a single production run that is of interest, but rather the development of the costs for a product over a certain time period.
Product Cost by Order on the other hand enables cost analysis at the level of specific production orders. This application component is often used in make-to-stock and make-to-order mass production. The idea of costing by order makes sense when setup costs are significant and full traceability for each specific order is a business requirement. There may also be regulatory requirements concerning batch traceability in the pharmaceutical industry, meaning that each order must be considered unique to be traceable.
In Product Cost by Sales Order application component, sales document items are the cost objects for which costs and revenues are determined both for planned and actual data. Sales document items are items in an inquiry, quotation, or sales order. This application component can be used for controlling of complex make-to-order production or service provision for a sales order, such as in mechanical engineering. If you are using a valuated sales order stock, you can collect and analyse the costs on manufacturing orders (production orders or process orders) or product cost collectors in sales-order-related mass production. With a valuated sales order stock, the costs on manufacturing orders (production orders or process orders) or product cost collectors can be collected and analysed for mass production based on sales orders. In addition, sales orders can be assigned to a WBS element (WBS=work breakdown structure) to evaluate costs and revenues on the order items in a SAP Project System) hierarchy.
Period-end closing in cost object accounting
The final costing of a cost object is performed during the period-end closing process. Period-end closing has the following steps:
- Determination of overhead surcharges
- Determination of variances
- Calculation of WIP
- Order settlement
In the determination of overhead surcharges determined overhead costs were allocated from overhead cost centers to production cost objects. Such costs are for example material or production costs which cannot assigned to cost objects with direct causality. A costing sheet defines how the overhead surcharge is calculated. It must be specified, which quantities or percentages are used for calculating overhead and which cost centers are credited with the regarding overhead costs.
The so-called WIP (Work in Process), refers to items that are neither semi-finished nor finished products; they are still in production and are therefore unfinished. The WIP calculation determines the value of this unfinished product based on the expenses already incurred. This value can also be appropriately capitalized in financial accounting as work-in-process inventory and recorded in the income statement as an inventory increase. In SAP terminology, WIP calculation is only used for period-based and order-based cost object accounting. In sales order-related cost object accounting, this is referred to as results analysis since revenues must be accrued in addition to costs.
Variance calculation is performed during final costing. Variance calculation makes a major contribution to possible analyses and reports within cost object controlling. It compares the various cost estimates (planned, target, actual) and provides analysis results via the variance categories. A general subdivision of the variance categories can be made according to input side and output side. The categories of the input side can be, for instance, input variance or structure variance. The categories of the allocation side can be, for example, the mixed price variance or the lot size variance:
Variances on the input side
- Input price variances
- Resource-usage variances
- Input quantity variances
- Remaining input variances
Variances on the output side
- Scrap variances
- Mixed-price variances
- Output price variances
- Lot size variances
- Remaining variances
The last step of the period end closing process is the settlement of cost objects. This function allocates the actual costs, WIP and variances to other cost objects or transfers them to P&L statement.
Actual Costing within Material Ledger
Actual Costing is a further method of product costing. It is not to be seen as a substitute to the traditional instruments like standard cost planning but as a complement. Actual Costing comes with the material ledger in S/4HANA. As the material ledger in S/4 is to be considered as a sub-ledger, material ledger must be activated in S/4. But this does not apply for the actual costing, which is not mandatory to use in S/4. So, it is not necessary to implement Actual Costing during a S/4 transformation. The method can be also integrated later after a S/4 implementation.
Basically, with Actual Costing it is possible to roll up price and exchange rate differences to higher production stages and to show actual costs on an article level. This works both for the legal view in a company and on a group level. For that parallel valuation in Material Ledger must be activated, too. In principle, Actual Costing revaluates the standard cost of a material. The calculated actual costs can be used for reporting aspects as actual COGS within the P&L up to the revaluation of the inventories and the use as a new standard prize.
Further features in SAP S/4HANA
In former SAP ERP system, there were many efforts to create a revenue-driven representation of cost of goods sold and production variances with the help of cost-accounting CO-PA, which should be reconcilable with FI, if possible, despite various cost-accounting items. However, the accounting view with its accrual-based presentation of inventory changes and production expenses, if in use, was primarily used for reconciliation with FI. With the introduction of SAP S/4HANA Finance, there is a new function in accounting CO-PA in this regard, the so-called COGS split (cost of goods sold). With the help of specially defined accounts, this function can be used to transfer the cost elements as well as production variances from product cost accounting. The cost of goods sold (COGS) is a cost block that results from an income statement according to the cost of sales method. It is the cost of goods sold for all goods sold during the period. COGS therefore do not consider inventory changes in the warehouse that result from increased or decreased production compared to sales. In accounting terms, COGS are not shown now when costs are incurred in production, but now when sales are generated, which is usually accompanied by the delivery to the customer.
A new feature in SAP S/4HANA is Event-Based Production Cost Posting in production accounting. This new feature provides real-time insights and enriched information to track simplified period-end closing processes for production cost control. It is also a parallel assessment for group-wide and local accounting standards using parallel accounting. It helps by answering relevant production accounting questions in an intelligent way. With this new functionality the values for WIP and variance were calculated at period end in the product cost by order component. Event-based production cost posting (including event-based WIP and event-based variance posting) is now available to calculate WIP and variance immediately instead of waiting for period-end closing. Event-based posting links cost posting to business events, such as goods issues, goods receipts, and operation confirmations.
If you want to get more information on Product Cost Controlling, Parallel Valuation or Actual Costing in SAP S/4HANA, feel free to contact Andy Draxinger (firstname.lastname@example.org).