Cost Analysis

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Description of Cost Analysis. Explanation.

Definition Cost Analysis. Description.

A Strategic Cost Analysis in which operating costs and assets are assigned to the activities in which they are incurred, is needed for any firm to understand its cost position. Whether it has a Cost Leadership strategy or a Differentiation strategy.

To be meaningful, the analysis must not happen at the level of the firm as a whole, but at a more detailed level. The required level of detail of a cost analysis depends on three things:

1. Size and Growth of the cost represented by the activity.

2. Cost Behavior of the activity. Activities must me analyzed separately if they have different Cost Drivers. Also the Cost Dynamics are to be analyzed, the way the cost drivers change over time independent of its strategy.

3. Competitor Differences in performing the activity. This can be analyzed via Competitive Benchmarking.

Steps in a Strategic Cost Analysis

1. Identify appropriate Value Chain and assign costs and assets to it.

2. Diagnose the Cost Drivers of each value activity and their interactions.

3. Identify and compare competitor value Chains. (Benchmarking).

4. Develop a strategy to lower relative cost position through controlling cost drivers or reconfiguring the value chain and/or downstream value.

5. Ensure that cost reduction efforts do not erode differentiation, or make a conscious choice to do so.

6. Test the cost reduction strategy for Sustainability.

Cost Advantage results if the firm achieves a lower cumulative cost of performing all its Value Chain Activities than its competitors.

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Compare with: Cost of Capital

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End of description Cost Analysis. An explanation.