Applying functional cost analysis in a manufacturing environment

Abstract

Value engineering is a technique initially developed in the West and widely employed by engineers to enhance product design. It has been further developed largely through the involvement, in Japan, of cost engineers. Most large Japanese manufacturers use it as an important element in their cost reduction and cost management policies. They employ it as a team activity to encourage the interaction and contribution of a range of disciplines. Accountants participate in these teams and provide a major input to the functional analysis of value engineering, and this has been termed “functional cost analysis” by the authors. This paper explores the nature and impact of functional cost analysis as it is used in value engineering. The first half of the paper is concerned with the more conventional application of functional cost analysis to individual products. This illustrates how and why the functions rather than the parts or resource inputs to a product can provide a valuable focus for costing activity. Functional cost analysis is examined within the context of different stages in the product life cycle and the application of cost management policies including competitive analysis, benchmarking and target costing. The second half of the paper examines an extension of the functional cost analysis approach from products to areas of manufacturing overhead costs and this includes drawing upon activity-based costing information. This involves the application of functional cost analysis methodology to business processes such as procurement, ordering, quality control and production scheduling. These are analysed and costed in terms of the functional service required by the “customers” of each business process. It thus provides a structured way of bringing visibility to many overhead areas in a manner which facilitates not only cost reduction but also incremental investment. Functional cost analysis allows cost information to be presented in a way which can reflect not only the technical capabilities of the firm but also the viewpoint of its customers. It also draws on the range of skills possessed by a variety of staff which can contribute to the cost management effort. These strengths have resulted in functional cost analysis becoming a highly effective and widely used technique for cost management.