Regardless of how you run your business or the industry in which you operate: every organization deals with costs. The goal is to keep the costs as low as possible and maximize the profit. A cost-benefit analysis is a crucial tool in realizing this.
What is cost(-benefit) analysis?
You make a cost analysis to either determine the costs associated with different segments of your business (like manufacturing, marketing, distribution etc.) or to compare several costs between given periods to determine improvements. There are 3 main types of cost analysis; the cost-benefit analysis is the main focus in this blog:
- Cost allocation
Cost allocation means determining a unit cost of cost per unit of service. It’s mainly used as a management tool. Basic cost allocation is usually a good starting point for cost-effectiveness analysis of cost-benefit analysis.
- Cost-effectiveness analysis
When conducting a cost-effectiveness analysis, you start with the desired outcome. Starting with the outcome, you then analyze and compare different ways to reach this with the intention to select the most effective or cheap way.
- Cost-benefit analysis
With a cost-benefit analysis, you want to find the answer to the question: do the economic benefits outweigh the costs? To answer this question, you calculate the ratio of benefit-to-cost, meaning you divide the total costs of the outcome by the costs of producing said outcome.
The process of cost-benefit analysis
So, the central question for cost-benefit analysis is: do the costs outweigh the benefits (profit)? To answer this, you need to know where costs are coming from, where they’re flowing to and what drivers influence the costs.
- We advise you to start by creating a whale chart. This shows you your profit by the denominator of your choice: customer, product or channel. It allows you to determine your feeders (most profitable product(s), customer(s) and channel(s) and bleeders (least profitable product(s), customer(s) and channel(s).
- You continue your cost-benefit analysis with breaking down the costs of your feeders and bleeders and rolling the cost origin up in your general ledger. This gives you a better understanding of where the costs are coming from.
- After rolling up, comes drilling down. You take the roots of the cost and look further into where these costs are flowing to. When using CostPerform for your cost-benefit analysis, the software tells you the most significant cost drivers in your cost model.
Tools for cost-benefit analysis
CostPerform allows you to run several different types of cost-benefit analysis, from a basic to a more thorough cost-benefit analysis, giving you the level of detail you need to make informed decisions. Some examples of predefined cost-benefit analysis tools we offer are roll-up and drill-down features, activity-based costing and time-driven activity-based costing.