Inter-Firm Comparison | Cost Accounting

In this article we will discuss about Inter-Firm Comparison:- 1. Meaning of Inter-Firm Comparison 2. Requirements of an Inter-Firm Comparison Scheme 3. Advantages 4. Disadvantages.

Meaning of Inter-Firm Comparison:

Inter-firm comparison is the technique which studies the performances, efficiencies, costs and profits of various concerns in an industry with the help of exchange of information in order to have a relative comparison.

It involves the process by bringing together a number of identical firms and collecting their business figures and statistics through a neutral organisation in which the participating firms repose their full confidence.

The firms are carefully screened and put into different size groups, their figures examined from a close range, comparative performance of each firm of the group drawn up showing the strong and weak points of its operations, and finally the reports are published without disclosing their identity, but using only codes and expressed in terms of certain well established ratios and percentages.

The figures under comparison may relate to:

(i) The financial results viz., the position of assets, liabilities, profit, capital employed, etc. expressed in terms of financial ratios;

(ii) Cost structure of the products viz., material cost, labour cost, overhead etc. expressed in terms of cost ratios;

(iii) Physical and operational performance such as output or operation per man hour, expressed in terms of productivity ratios and percentages, and so on.

From the above it is clear that the main objectives of inter-firm comparison are:

i. To know one’s weak points in comparison with other firms and to improve the efficiency in future;

ii. To locate the spots of in economies so that action may be taken to effect economy by eliminating such sources of in economies;

iii. To know whether the profits of the firm are adequate and further to improve profitability position by comparing its profits with the member firms.

iv. To enable the member units to standardize various functions so that wastage can be minimised.

Requirements of an Inter-Firm Comparison Scheme:

Following are the main requirements while installing a scheme of inter-firm comparison:

i. Adaption of Uniform Costing:

There must be a sound system of uniform costing in the firm where inter-firm comparison scheme is to be implemented. A uniform manual should also be prepared and distributed among the member units to enable the function of the system efficiently.

ii. Organisation Responsible:

An organisation must be established to run the system efficiently and for better results firms of different sizes in an industry should become member of the organization. In industrially advanced countries independent agencies such as British Centre for Inter-firm Comparison, European Productivity Agency and U.S. Bureau of Labour Statistics are responsible for collection, coordination and presentation of information but in India some undertakings such as National Productivity Council, the Trade Development Authority, the Bureau of Industrial Costs and Pricing, the Tariff Commission have undertaken though in a limited way the task of inter-firm comparison.

In some cases trade associations, holding company or parent organisation are doing this work.

iii. Information to be Collected:

The nature of information to be collected from the participating firms depends upon the needs of the management, comparative importance of the information and the efficiency of the central body responsible for the collection of the information.

The information to be collected must be relevant only. Information is generally collected relating to costs and cost structure, labour or machine efficiency and utilisation, raw material consumption, wastage, inventory, return on capital employed, liquidity, reserves and appropriation of profit, methods of production, creditors and debtors, technical aspects etc.

iv. Method of Collection and Presentation of Information:

The time and the form in which the information is to be submitted by the member units must be decided in advance. The various statistical tools for the purpose of collection of data, its editing, classification, presentation, drawing conclusions and inferences can be used. Ratio analysis for measuring profitability, efficiency and productivity etc. can also be used.

Advantages of Inter-Firm Comparison:

Inter-firm comparison is nothing more than learning by example. It is for the management that inter-firm comparison has been evolved as a technique in industry. From the point of view of the working of a particular firm, it is at times impossible to know what is happening outside and why.

Inter-firm comparison by an expert outside body affords suitable knowledge, satisfying to a large extent the need for management to know what the competitors in the line are doing and how.

To the workers and their unions, inter-firm comparisons help to give an idea of the relative capacity of the firms in question in terms of wages and the wage scales, production bonus, increasing the possibilities of employment etc. as well as the relative efficiency of the workers in a particular firm vis-a-vis other firms in the same industry, the same area, or the same class of workers.

It can help management to make effective divisions at strategic and operating levels.

Following are the main advantages of inter-firm comparison besides what have been stated in the advantages of uniform costing:

i. It encourages managerial efficiency in the organisation by pointing out the spots of inefficiencies and thus brings stability in the cost structure and presentation of information.

ii. It creates cost consciousness among the participating firms and they are cautious in this respect at all levels of management.

iii. It helps the member firms to reduce their costs in case their costs are more as compared to other firms.

iv. It increases the productivity by locating the weaknesses and in-economies. Inter-firm comparison technique is a method of self-analysis of the business by the businessmen themselves.

The management of the business on the basis of results obtained from the self-analysis is bound to react and look around for means to improve its performance or increase productivity. Inter-firm comparison will, therefore, prove as an incentive to productivity.

v. It provides useful information to management of every member unit to make proper decisions and enable the management to continue to review the operations and policies of the business as a whole or its divisions.

vi. It stimulates self-criticism by comparing its data with the other firms.

vii. It enables the firms to evaluate the data relating to the operations of the competitors in order to analyse its weaknesses as compared to other firms.

viii. The benefits of research is passed on to member units by the central organisation.

ix. It ensures standardization of production process.

x. It helps the government, regulatory agencies, and researchers in getting useful data and information to improve policies and conducting depth studies and research.

Prof. Nigam has beautifully summarized, the utility of inter-firm comparison in these words:

“It is not only useful for management, it also acts as a tool for decision making by bankers, shareholders, institutional investors, licencing authorities, price control organisations, creditors, trade unions, consumers’ organisations and other social and economic interests. It is also useful in evaluating business results and return on capital invested which, in turn, helps in project appraisal and evaluation, conducting feasibility studies, capital budgeting, investment decisions etc”.

Limitations of Inter-Firm Comparison:

Following limitations of inter-firm comparison may be noted:

a. The top management feels that secrecy will be lost and middle management may not be convinced of the utility of inter-firm comparison because it is of the opinion that when other tools of comparison are available, this tool has no utility.

b. Mostly the member firms do not disclose the relevant data as they think it to be confidential. Thus the information supplied may not be reliable for comparison or decision making purposes.

c. There may be no cost accounting system properly executed in the concern. This will result in unreliable figures relating to the various aspects of cost and there is possibility of misleading results if decisions are taken on the basis of these figures.

d. There may not be available a suitable base for comparison purposes.

e. In such comparisons, time factor is totally ignored. The inconsistencies in financial reporting are totally ignored. No adjustments are made for changes in the prices. No attention is given to the level of technology and technological developments. Generally there is a lack of common valuation method in different units to be compared

These limitations can be removed by proper education and propaganda. This may be done through articles in the journals and periodicals, lectures, seminars and personal discussions. There must be an installation of a system which ensures complete secrecy. Introduction of a scientific cost system is needed in order to provide reliable information relating to the various aspects for comparison purposes.