A Contracting Theory for Predicting and Managing Cost Behavior

Abstract

The traditional concept of variable and fixed cost behavior is not accepted by all authorities in cost and management accounting (e.g., Anderson, Banker, and Janakiraman 2003; Kaplan and Witkowski 2014). This paper proposes a nexus of cost contracts theory in which costs are fixed and variable with respect to individual contracts for inputs, and contracts expire at different times within a single planning period. Resulting total cost functions may or may not appear to have variable and fixed costs, or to be symmetric. The theory provides interesting insights regarding the relationship between budgeting and outsourcing, the importance of negotiating skill to managing costs, the role of predicting contract parameter usage, risks and opportunities related to cost contract expirations, cost information system requirements, cost allocation, and asymmetric cost behavior.