Certified Public Accountants
and Business Advisors
Since 1921
Cost Accounting System Results in
New Revenue, Lower Expenses
Case Study Series
Richard Fischer, CPA
Audit & Assurance Partner
412-281-8771 | [email protected]
Proven excellence
Background & Challenge
A large corporation had recently acquired a private,
family-owned manufacturing company that served the transportation industry. Requested services included assessing the
assets and inventory accounting system of the acquisition, as
well as verifying inventory accuracy.
As Louis Plung & Company (LPC) soon found out, they did not
have a reliable cost accounting system in place. As a result,
neither the parent company nor the business itself knew its true
value.
Advisory Solution
After meeting with different employees and observing the daily
practices of the business, LPC quickly identified key financial
issues and started developing a more effective cost accounting
system.
Before LPC visited the entity, the owners had been expensing
every component of the bearing refurbishing process, including
incurred labor and bearings they cleaned (regardless of whether or not the services had been paid for). Additionally, there was
no accounting system in place to manage the inventory. The
company relied on the floor manager to know how many bearings were available. This was not an optimal process because:
• The current system conflicted with the matching principle
of accounting, which asserts the importance of matching
revenue with expenses when calculating the overall profits
of the company.
• The current system triggered spikes in income, which can
be a sign of a struggling business.
• Relying on one person to manage all inventories can be
dangerous. Banks and investors are not interested in approximate numbers and guesses, they want exact totals.
• If the estimates the floor manager made were incorrect, the
company could be missing out on hundreds of thousands
of dollars in potential revenue.
Once the company agreed to consider alternatives, LPC set out
to find the most effective cost accounting system to track labor
and overhead costs. In order to do this, LPC had to fully understand the bearing refurbishing process, which was achieved
by touring the facility and speaking with management and key
employees over a period of about two days.
There are four main parts to a bearing: the cup that houses
the bearings, the bearings themselves, and the caps that seal
the bearings in place – together they are called a core. LPC
examined the history of how many cores the company cleaned
in a month and over the course of a year to see if there were
time-related patterns, then used the information to calculate
an average number of cores cleaned per day and per month.
From there, LPC created rates for overhead and labor by
examining the incurred labor and overhead incurred by the employees who actually refurbished the cores and the equipment.
The next challenge was using those rates and deciding how to
allocate them over the four main parts of the core. After analyzing the refurbishing process, LPC created an allocation factor
to help track the manufacturing process from start-to-finish and
enable the company to account for the different phases.
Once those factors were established, LPC helped the company
create a new line of inventory called equivalent bearing units,
which represented the number of ready-to-be-assembled units
in the warehouse. LPC also helped determine which cores could
be designated as finished goods, which created an additional
source of revenue.
Impact
• LPC enabled the company to obtain additional financing
and capital.
• The establishment of equivalent bearing units and finished
goods helped prove the company had been missing out on
over $200,000 in potential revenue by solely relying on the
estimates of the floor manager.
• LPC provided a unique and easy-to-understand solution,
custom-made for the client.
The company was extremely satisfied with the processes LPC
had put into place, and management was excited about new
sources of revenue that were created as a result.
The new parent company now has an accurate baseline to monitor their acquisition’s performance, as well as a clear understanding of its inventory processes.
Please note: Any professional advice or opinions contained herein are not intended to be applied to
any specific fact or circumstance. Please contact us at 412-281-8771 for questions about your specific
situation.
www.louisplung.com