I promised some students of mine to do a piece on this. So here goes:
In the corporate world numerous cost structures are divided and subdivided into layers. These often are designed with the aim of facilitating management with a grasp of resource-utilization. There are many types of costs: direct and indirect, manufacturing and service etc etc.
I wish to introduce the term, Manufactured Costs – as diametrically opposed to Manufacturing costs. The term may not be common-place, but the practice certainly is.
In every country there are individuals and companies, large and small that ‘create’ or manufacture some costs (expenses) to charge against higher profits or to lower these manufactured costs when returns are low – and then to focus on tax savings which can be deemed legal or illegal depending on the strength of the tax department Vs the company’s legal offices.
It is common practice to add costs (some call it add value) so that the price to the consumer is justifiably higher than would have been without these manufactured costs. Sometimes it is important to increase costs or decrease margins so that value-add activities are allowed, like quality checks etc.
However, the incidence of “manufactured” costs is as commonplace in the books as in the instances that it does not catch the eyes of regulators and regulating bodies that should overlook such things.
There are some Manufactured costs that are plain in sight. Look around the various businesses and you can find some for yourselves. You should find these examples since you pay for them!
Then there are complex systems of Manufactured Costs. Companies go into great pains to Manufacture these Costs so that 1) They can make higher return and 2) So that they can cheat on taxes.
Let me explain: if a company buys a product for $1 and resells for $2; it should typically be charging for a number of things including time and labour to sell etc. So, one can argue that the acceptable resale value might be $2. In an open market, competition and/or the elasticity of demand and supply would influence the price.
However, when that company creates layers of itself, then it upsells the product through its own layers, add cost to each layer and overcharge the consumer for the end product. To the eyes of the unsuspecting public, such selling price becomes justified. However, by peeling away the layers (corporate veils), you find the truth…hidden below many layers.
Some companies, especially those who are dominant do all sorts of shenanigans to ensure that their real purchase price is hidden. In this way, regulators and the tax department are blinded by the layers while the customers pay what is demanded.
Using the earlier example, the cost is $1 to the company – but the company buys it at a subsidiary level, Say the company has 3 subsidiaries, the subsidiary #1 buys for $1 and sells to Subsidiary #2 for $3; the subsidiary #2 sells to subsidiary #3 for $6. Remember at this stage there is no value-add only “profit-add”; so there is a ladder pricing that increases the “price” at every layer.
The final layer company subsidiary #3 will then sell the product for $10. Real cost is $1; market selling price $10. Company makes a killing.
These companies would argue that there is nothing illegal in their action. But it certainly lacks transparency.
Where there is a free-market philosophy, that kind of shenanigan would be curtailed by market pressure since competition will force it down. However in markets that lack competition, these are areas that scream for legislators to ensure that such practice is nipped. Ultimately some persons will argue that all’s fair in the business battle – but these bad practices must be curtailed. This is why we have accounting standards and full disclosure policies etc – except that some companies and individuals operate with their own laws. Unfortunately they are rife in economies where there are monopolies and monopolistic tendency across the private sector. Or where the private sector is an arm (or a tool) of the public sector.
Legality Vs Morality
Even if not illegal, the question of morality begs to be answered. An act can be legal but immoral.
Such Manufactured Costs, created to defraud consumers and to rob the national treasury of taxes should be stopped.
In countries like Guyana, the watchdog bodies like the consumers’ association and the regulators must get off their backsides and ensure that there is fair-play. Neither this author not any consumer is opposed to companies or individuals making profits but this must take place in a system that allows for everyone to play by the same rules. There must be open market philosophy and zero state protection.
In markets like ours, there is no legal challenge to such wrong doings. There is very poor consumer representation with worse regulation-enforcement and as such, Manufactured Costs become a rapacious attack on people who have to otherwise struggle to survive and who have no choice on the products and the companies selling them.
One can argue that the above presentation has some flaws but, we cannot address the entire field of economics in such a small article.
In conclusion, there is obviously a need for a strong watchdog body for the consumers. These bodies must be non-political. In a society as ours where the small man will always remain small, there needs to be advocates who can ensure that certain rules are in place and that those rules are followed.