Introduction to SCM

STRATEGIC COST MANAGEMENT

Introduction to Strategic Cost Management (SCM)

SCM Defined
This is the process through which activities or cost drivers are identified and analyzed in order to lower costs and maximize
product value so that an entity would have a strategic competitive advantage over other players within an industry.

There are three generic strategies in order to achieve sustainable competitive advantage:
1) Cost leadership – to provide the same or better value to customers at a lower cost than offered by competitors
(e.g., a company might redesign product so that fewer parts are needed, lowering production costs and costs of
maintaining the product)
2) Differentiation – strives to increase customer value by increasing what the customer receives (e.g., a retailer of
computers offers an on-site repair service, a feature not offered by other rivals)
3) Focus – a firm selects and emphasizes a customer segment in which to compete (e.g., market niche – a segment
of a larger market that can be defined by its own unique needs, preferences, or identity that makes it different from
the market at large [https://www.shopify.com/blog/niche-markets])

Terminologies Associated with SCM

1) Value Chain
 The set of activities required to design, develop, produce, market and deliver products and services to
customers.
 This is essential because it focuses on customer value – the difference between what is received and given
up by the customer when buying a product or service.

2) Total Quality Management (TQM)

 A management technique that integrates all organizational functions (marketing, finance, design,
engineering, production, customer service) to focus on meeting customer’s expectation and business
objectives.
 Requires management to develop policies to ensure that products and services exceed customer’s
expectations
 A formal effort to ensure and improve quality throughout an entity’s value chain.
 To execute TQM, the company should incur quality costs.
o Quality costs are the ones incurred on quality-related processes; these are incurred to prevent
defects, or incurred as a result of defects occurring.
i. Conformance costs – incurred to keep defective products from falling into the hands of
the customers.
• Prevention costs – costs relating to any activity that reduces the number of defects
in products or services. (e.g., quality training, quality engineering, systems
development, statistical process control activities, technical support given to
supplier)
• Appraisal costs – costs incurred in activities relating to inspection to make sure
that the products/services meet quality standards. (e.g., inspection/testing of
incoming materials/supplies, maintenance of test equipment, process control
monitoring, product quality standards)
ii. Non-conformance costs – incurred because defects are produced despite efforts to
prevent them.
• Internal failure costs – result from identification/discovery of defects during the
appraisal/inspection process. (e.g., cost of scrap/spoilage, rework costs, downtime
caused by quality problems, disposal of defective products)
• External failure costs – result when a defective product is delivered to a customer.
(e.g., returned products, repair costs in the field, product liability lawsuits, warranty
claims, service calls, lost sales arising from a reputation for poor quality)

3) Just-in-Time (JIT)
 It is a “demand-pull” system where inventories are purchased/produced only as needed for production/sale,
reduced to the minimum level and, in some cases, reduced to zero (i.e., elimination of non-value-added
costs).
i. JIT purchasing – raw materials are received just in time for production; goods for sale are received
just in time for delivery or sale.
ii. JIT manufacturing – manufactured materials are completed just in time for production; products
are completed just in time for delivery.

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4) Continuous Improvement
 The constant effort to eliminate waste, reduce response time, simplify the design of both products and
processes, and improve quality and customer service. Continuous improvement can be done in two ways:
i. Business Process Reengineering [BPR] (radical improvement)
i. Involves redesigning business process to reduce costs and eliminate inefficiencies and
opportunities for errors. Common features of BPR are the following:
i. Radical approach to improvement – a significant change to a process utilizing
new technology and/or innovative methodologies that results in an
improvement to customer satisfaction so dramatic that demand for the product
or service increases
ii. Business process is diagrammed in details, analyzed and completely
redesigned
iii. Simplification of business process
iv. Elimination of non-value-added activities (e.g., scheduling, setting up
equipment, recording time spent on a particular job, inspection, billing)
ii. Kaizen (gradual improvement)
i. The gradual process of reducing costs during the manufacturing phase of an existing
product through small and continual improvements rather than through radical changes.

5) Theory of Constraints (TOC)

 Constraint is anything that prevents an individual or a business organization from getting more of what the
individual or organization wants; it prevents the individual or organization from achieving higher
performance relative to its goal.
 The theory focuses on constraints or bottlenecks which hinder speedy production. This binding constraint
in the production process dictates the pace of the manufacturing throughput rate. (Throughput is the amount
of material or items passing through a system or process in a given time.) The idea is to remove or unclog
the bottleneck to accelerate the production process from the point of procuring materials up to the point of
delivering the goods to the customers.
 TOC is a process of continuous improvement. Here are the basic steps to employ TOC:
i. Identify the constraint (may be internal or external)
ii. Study the constraint and decide on how to exploit or overcome such limitation
iii. Prioritize effective management of the existing constraint
iv. Introduce improvement into the system to break the constraint
v. If the constraint identified in step 1 is broken, repeat step 1, i.e., find another weak point or
constraint in the system

6) Product Life Cycle Costing

 A management technique used to identify and monitor costs of a product throughout its life cycle, which
can be divided into the following stages:
i. Production viewpoint
i. Research
ii. Planning
iii. Design
iv. Testing
v. Production
vi. Logistics

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ii. Marketing viewpoint

i. Introduction
ii. Growth
iii. Maturity
iv. Decline

7) Benchmarking
 This is basically standards setting and standard getting. The idea is to identify the best practices in the
organization and make it as the benchmark or standard for others to emulate.
 Three steps to employ benchmarking:
i. Identifying critical success factors
ii. Studying the best practices of other firms based on identified success factors
iii. Implementing needed improvements to match or beat the performance of other firms

MULTIPLE CHOICE QUESTIONS

(Sources: CMA / CIA / AICPA / Various test banks)

1) Which of the following is not among the three strategies prescribed by SCM?
a. Focus c. Market segmentation
b. Cost leadership d. Product differentiation

2) The value chain is the sequence of business functions in which

a. Value is deducted from the products or services of an organization
b. Value is proportionately added to the products or services of an organization
c. Products or services are evaluated with respect to their value to the supply chain
d. Usefulness is added to the products or services of an organization

3) R & D, production and customer service are business functions that are included as part of
a. Value chain c. Marketing
b. Benchmarking d. Supply chain

4) Which among the following is a value-added activity?

a. Processing c. Storing
b. Moving d. Inspecting

5) There are four broad classes of activities in the value chain. Research and development is part of
a. Activities related to getting ready to make the product
b. Activities related to making the product
c. Activities related to dealing with the customer
d. Other activities that support the first three activities

6) There are four broad classes of activities in the value chain. Storing work-in-process is part of
a. Activities related to getting ready to make the product
b. Activities related to making the product
c. Activities related to dealing with the customer
d. Other activities that support the first three activities

7) There are four broad classes of activities in the value chain. Billing activity is part of
a. Activities related to getting ready to make the product
b. Activities related to making the product
c. Activities related to dealing with the customer
d. Other activities that support the first three activities

8) There are four broad classes of activities in the value chain. Accounting activity is part of
a. Activities related to getting ready to make the product
b. Activities related to making the product
c. Activities related to dealing with the customer
d. Other activities that support the first three activities

9) The unyielding and continuing improving effort by everyone in the organization to understand, meet and exceed the
customer expectation and uses front-line workers to solve problems systematically.
a. JIT manufacturing c. Total quality management
b. Conventional manufacturing d. Total quantity management

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10) Which of the following is at the core of the definition of TQM?

a. Customer surveys c. Employee satisfaction
b. Continuous improvement d. Supplier inspections

11) The primary reason for adopting TQM is to achieve

a. Greater customer satisfaction c. Reduced delivery charges
b. Greater employee participation d. Reduced delivery time

12) TQM should be viewed as

a. Management-centered and technology-driven
b. Customer-centered and employee-driven
c. Policy-centered and procedure-driven
d. Goal-centered and standard-driven

13) A characteristic of TQM is

a. Quality by final inspection c. Education and self-improvement
b. Management by objectives (MBO) d. OJT by other workers

14) In which of the following organizations does TQM work best?

a. Hierarchal c. Teams of people from the same specialty
b. Specialists working individually d. Teams of people from different specialties

15) Implementation of TQM in a firm

a. Takes from three to five years
b. Must follow a rigid, predetermined process to be successful
c. Involves some lower-level managers and all senior executives
d. Is a bottom-up process, with senior management involved only in the final phase

16) A traditional quality control process in manufacturing consists of mass inspection of goods only at the end of the
production process. A major deficiency of this traditional quality control process is that
a. It is expensive to do the inspections at the end of the process
b. It does not focus on improving the entire production process
c. It is not possible to rework defective items
d. It is not 100% effective

17) Under a TQM approach,

a. Measurement occurs throughout the process and errors are caught and corrected at the source
b. Quality control is performed by well-trained inspectors at the end of production process
c. Upper management assumes the primary responsibility for the quality of the products and services
d. A large number of suppliers are used in order to obtain the lowest possible prices

18) Which is not listed as a practice that successful TQM firms use to ensure having quality suppliers?
a. Forming long-term relationships with suppliers as working partners
b. Setting measures that truly reflect the needs and expectations of suppliers
c. Reducing the supplier base
d. Selecting suppliers based on price and their capability and willingness to improve quality, cost, delivery,
flexibility and for their dedication to continuous improvement

19) The process of instituting procedures and then obtaining feedback to ensure that all parts of the organization are
functioning effectively and moving toward overall company goals.
a. Decentralization c. Planning
b. Benchmarking d. Control

20) A tool that compares how tasks are performed internally against the best practices of industry leaders is
a. Process value analysis c. Benchmarking
b. Reengineering d. None of the above

21) It is an approach to developing new ways (i.e., radical redesign) to perform existing activities is called
a. Process value analysis c. Benchmarking
b. Reengineering d. None of the above

22) In BPR, the main objectives are to simplify and to possibly eliminate
a. Value-added activities c. Constraint
b. Non-value-added activities d. Non-constraint

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23) Which of the following statements is true regarding BPR?

a. It requires a change in the company’s products
b. It involves redesigning business processes and eliminating value-added activities
c. It involves completely redesigning business processes and it is often implemented by outside consultants
d. It empowers front-line workers to solve problems and it focuses attention on solving problems rather than
on finger-pointing

24) BPR
a. Affects employees in a way that boosts their morale
b. Is less likely to result in employee resistance than TQM
c. Is more likely to result in employee resistance than TQM
d. Does not affect employees, hence, no resistance from employees is expected when it is applied

25) Which of the following quality tools is another term for gradual yet continuous improvement?
a. Theory of constraints c. Six-sigma
b. Kaizen d. Lean manufacturing

26) The JIT system is also called the

a. Job in training system c. Zero cost system
b. Job in transit system d. Zero inventories system

27) JIT purchasing can be used by

a. Retailers c. Manufacturers
b. Wholesalers d. All of the choices

28) Ideally, the number of units that should be produced in a JIT manufacturing system is equal to the
a. Maximum productive capacity c. Budgeted demand for the current period
b. Actual demand for the current period d. Budgeted demand for the following period

29) In JIT, the flow of goods is controlled by a “pull” approach. It means that
a. Work is initiated only in response to customer orders
b. Customers are pulled to buy more units to reduce the company’s inventory
c. Warehouses should always be full to be sure that customer demands are always met
d. Production officers see to it that there is always something to do to keep everyone busy

30) All of the following are characteristics of a JIT manufacturing environment, except
a. Frequent deliveries of materials c. Little or no inventory of finished product
b. Manufacturing cells d. Longer production cycle

31) JIT purchasing (demand pull system) requires

a. Smaller and more frequent purchase orders
b. Larger and more frequent purchase orders
c. Smaller and less frequent purchase orders
d. Larger and less frequent purchase orders

32) A JIT manufacturer is more likely than a conventional manufacturer to

a. Receive more frequent deliveries of materials
b. Hold large inventories to serve as buffers
c. Spend less money on advertising
d. Need workers with fewer skills

33) A conventional manufacturer is more likely than a JIT manufacturer to

a. Have a short production cycle c. Hold large inventories to serve as buffers
b. Produce goods in smaller batches d. Receive more frequent deliveries of materials

34) Which of the following is a characteristic of JIT inventory management system?

a. JIT users determine the optimal level of safety stocks
b. JIT is applicable only the large companies
c. JIT does not really increase overall economic efficiency because it merely shifts inventory levels further up
the supply chain
d. JIT relies heavily on good-quality materials

35) All of the following are potential financial benefits of JIT, except
a. Reducing the risk of obsolescence

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b. Reducing manufacturing lead time

c. Lower investments in inventories
d. Lower investments in plant space for inventories

36) Which of the following do JIT operations try to eliminate?

a. Discretionary fixed costs c. Avoidable costs
b. Non-value-adding costs d. Direct costs

37) Well-implemented JIT production and purchasing techniques

a. Result in large stockpiles of inventory to keep production running
b. Strengthen a company’s ability to compete in the marketplace
c. Increase a reliance on long-term customer forecasts
d. Reduce a company’s competitive edge

38) Under Theory of Constraints,

a. No company has constraints
b. Improvement efforts should be focused on non-constraints
c. Efforts that would improve output of a workstation shall be focused on the constraints
d. A company that wants to improve its operation shall focus on workstation with the highest productive
capacity

***END OF HANDOUTS ***

“The mirror is my best friend because when I cry, it never laughs.”

- Charlie Chaplin

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