Integrate Operating and Capital Expenditures into an Analytical Accounting Model

2024/02/05

Jérôme Keller

Integrate Operating and Capital Expenditures into an Analytical Accounting Model

Organizations better understand and manage their costs by applying analytical accounting, also known as management accounting. By integrating operating and capital expenditures, organizations gain a more objective view of their total costs. This article explores the steps and best practices for integrating these two types of expenditures into an analytical accounting model.

Definitions Reminder

Analytical Accounting: An internal accounting method aimed at analyzing costs to aid decision-making. It determines the full cost of products, services, or activities.
Operating Expenditures: Recurring costs related to the daily operation of the organization, such as salaries, supplies, energy, and maintenance.
Capital Expenditures: Costs associated with purchasing or improving long-term assets, like equipment, buildings, and technologies.

4 Steps to Apply Operating and Capital Expenditures

To integrate operating and capital expenditures into an analytical accounting model, here are the four essential steps we will describe in detail just after:

1. Collect and Classify Expenditures

The financial data useful for management accounting is often found in several sources:

Integrated Management Systems (ERP): centralize and automate the collection of financial data. These systems integrate various functions of the organization, such as accounting, inventory management, sales, and human resources, facilitating consistent and real-time data collection.
Asset Management Software: manage assets and capital expenditures. These tools track the acquisition, depreciation, and residual value of assets.
Debt Management Software: track loans, repayment schedules, and associated interest. These tools efficiently manage financial obligations and optimize cash flow.
Task Management Software: collect data related to the time and efforts expended by employees on different activities or projects.

In these data sources, here are the main categories and important financial data to consider:

Direct Costs

Raw Materials: Costs of materials directly used in the production of goods or services.
Direct Labor: Wages and benefits of employees directly involved in production.
Production Expenses: Costs of machines and equipment used directly to produce goods or services, including maintenance costs.

Indirect Costs

Indirect Labor Costs: Wages and benefits of employees not directly involved in production but necessary for operation, such as supervisors and maintenance staff.
Overhead: Expenses related to operations, such as electricity, water, heating, and facility maintenance costs.
Administrative Expenses: Costs of administrative functions, including salaries of administrative staff, office supplies, and support services.

Fixed Costs

Depreciation: Allocation of investment costs in assets over their useful life. For example, depreciation of machinery, buildings, and equipment.
Rent: Costs of renting buildings, equipment, or other facilities used by the organization.
Insurance: Premiums for property, facilities, and liability insurance.

Variable Costs

Materials and Supplies: Costs of materials and supplies that vary with the level of production.
Energy: Costs of electricity, gas, and other forms of energy consumed based on the level of activity.
Transport and Logistics: Costs of transporting raw materials and finished products, including delivery costs.

Other Costs

Financial Expenses: Interest on loans, debt management fees, and other financial costs.
Taxes and Duties: Business taxes, customs duties, and other operation-related taxes.

2. Allocate Costs to Analysis Centers

Allocating costs to analysis centers is essential for accurate cost distribution within the organization. First, define the analysis centers: they represent the different departments or operational units responsible for costs, such as the production center, the research and development center, or the administrative center. This identification is then used to accurately determine the origin of the costs.

If you want to know how to identify your Primary and Auxiliary Centers, we recommend consulting: Identifying your Primary and Auxiliary Centers from the Value Chain of your organization.

Next, operating costs are allocated to the analysis centers based on their use of resources. For example, electricity costs are distributed among the analysis centers proportionally to their energy consumption. Similarly, salaries of employees assigned to a particular center are directly allocated to that center. This approach calculates the costs of each center based on its actual activity.

The allocation of capital expenditures is a particularly important step. These expenses must be spread over their useful life using methods such as depreciation.

For example, a machine purchased for 100,000 euros, with a useful life of 10 years, will result in an annual depreciation of 10,000 euros. If this machine is used by two analysis centers, center A and center B, at 60% and 40%, respectively, the annual depreciation will be allocated as follows: 6,000 euros for center A and 4,000 euros for center B. This proportional allocation ensures that each analysis center bears a fair share of the investment costs.

3. Calculate Total Costs

The calculation of the total costs of products and services is based on the addition of direct and indirect costs. Direct costs include raw materials, direct labor, and specific production expenses for a product or service. Indirect costs, such as overhead and administrative costs, are allocated among the different products and services using appropriate allocation keys and applied to the costs of Analysis Centers. For example, maintenance costs of a machine used for multiple products are distributed based on the usage of the machine by each product.

If you want to know how to allocate Direct and Indirect Costs to Analysis Centers, we recommend reading this article: Allocate Direct and Indirect Costs to Analysis Centers of your organization.

The allocation of indirect costs is based on the consumption of analysis centers by each product or service. For example, if a product uses a specific machine, the maintenance and depreciation costs of that machine will be charged proportionately to the use of that machine by the product. This provides an accurate view of the total costs associated with each product or service.

4. Analyze and Use Results

Cost analysis is a key step to understand the profitability of the different activities of the organization. Using the obtained data, managers identify areas where savings are achievable. For example, if the analysis shows that certain analysis centers consume resources disproportionately compared to their production, measures are taken to improve efficiency.

The results of cost analysis are also essential for strategic decision-making. By clearly understanding the total costs, leaders make informed decisions about product pricing, future investments, and cost reduction strategies. This optimizes the organization’s resources and greatly improves overall efficiency.

In addition to the entire modeling tools, Easy Orga provides access to a broad and powerful set of visualization and analysis tools for your Total Costs:

Origins of Costs for an insurance product

Conclusion

Integrating operating and capital expenditures into an analytical accounting model is essential for effective financial management and strategic decision-making. By following the four key steps - collecting and classifying expenses, allocating costs to analysis centers, calculating total costs, and analyzing results - organizations gain a precise view of their costs.

This not only reveals the profitability of different activities but also optimizes resources and investment planning in a more relevant and strategic manner. In the end, a well-structured analytical accounting contributes to financial stability and sustainable growth for any organization.