Dickeson--Job Costing - A Virtual Reality Check
I’ve spoken these obvious truths in this column several times in the past 19 years and written a little booklet on the subject. But I find it’s necessary to repeat a variation of the message about every third year because the myth of virtual job-cost reality will not go away.
We refuse to let it depart because we wish it to be true. At some point in our lives, we gave up on Santa and the Tooth Fairy, but we substituted job costing in their place.
Well . . .that’s probably an overstatement. We do derive some decision comfort from job costing. It cannot set our prices, but it can support a decision to refrain from taking a job at what we perceive to be a probable loss. It can provide job comparatives for marketing analysis of completed work. It is helpful in identifying core competencies and directing marketing effort.
But those costs cause side effects that can be dangerous to your economic health. Keep them out of the hands of production personnel. Be aware, always, that job costs are part of a virtual reality.
I’m aware I’m causing discomfort when I say these things. But we know from Economics 101 that price is value perceived by the customer, constrained by competition. Your price is NOT a function of your cost.
Do the Math
We know how our virtual job costs are derived: Multiply standard cost by either production standards or actual performance. Standard costs start from an annual budget that is founded on critical assumptions that rarely prevail.
One of the prime assumptions is work center capacity and capacity utilization. That’s always a SWAG (scientific wild-ass guess). Another is use of historic capital costs, depreciated or amortized. A third is that the historic cost of plant land is equal to the value of the highest and best use; pure fiction. Another is the projection of inventory turns and cost. And on and on.