Why is the manufacturing cost so important? What is the “manufacturing cost”?
How to calculate manufacturing cost? Should we simplify cost capturing and how?
We know that as a manufacturer you are interested in knowing your profit.
Also, we know what a headache is to figure it out. Whether you are dealing with overseas import or you have a project-based business model – each scenario has a vast number of inputs that are fluctuating which makes cost capturing a tricky job.
Let us start with basic definitions-what is the manufacturing cost?
Manufacturing cost is the sum of:
- Direct materials cost
- Sum of all of the materials that are used to create finished goods (product
- Direct labor cost
- Types of labor which are considered to be part of the direct labor cost
- Manufacturing overhead
- Indirect labor cost: The indirect labor cost is the cost associated with workers, such as supervisors and material handling team, who are not directly involved in the production.
- Indirect materials cost: Indirect materials cost is the cost associated with consumables, such as lubricants, grease, and water, that are not used as raw materials.
- Other indirect manufacturing costs include machine depreciation, land rent, property insurance, electricity, freight, and transportation, or any expenses that keep the factory operating.
Can you name some of the costs, based on your experience?
Here are some examples:
- Direct materials cost:
- Aluminum in a bike frame, rubber for the wheels, steel for other metal parts
- Direct labor cost:
- Workers on the assembly line, welding guys…
- Manufacturing overhead:
- Transportation cost, outsourced operations e.g painting or other material surface treatments
They all come together and form your MANUFACTURING COST.
But, there is a catch.
As much as you are trying to record the exact cost, the process alone is influencing costing, to be precise-your indirect cost.
This equation gets a little bit complicated -it is almost as trying to achieve the speed of light.
Of course, this is a joke, but it is not far from the truth. As much as you try – you need more time and resources to capture the exact cost.
So, why do we think that manufacturing cost capturing can actually increase your costings?
Let’s try to elaborate in 5 simple steps, that show us what do we need to implement in order to capture cost:
- Hardware components needed to be implemented in the manufacturing process
- Software necessary to run on top of hardware
- Skilled labor necessary to operate hardware, software and daily routine manufacturing jobs
- The time necessary to record necessary data generated during the operational process and time needed for the system maintenance
- Prevent “balkanization” during the process (instead, create synergy between hardware software and workforce)
As you can see, it seems to have logic to implement cost capture – when you have a small number of inputs (signals recorded).
When things get complicated, then you need to weight organization benefits against the number of manufactured items.
Why? Because insisting on capturing all cost parameters can create a boomerang effect and increase your product cost. We will not go into accounting details, because here we are trying to transfer experience and best business practices from hundreds of implementations.
It is not the same for SMBs and large corporate business. And believe it or not, when a small business /startup goes into accelerated growth – the main problem is to keep organization stable, fulfill deadlines and get your inventory in place, capturing cost comes as a reward at the end of the process.
In ERPAG our initial design approach is to try to lower down pressure on actual cost capturing.
From the small business perspective we can downgrade and simplify manufacturing cost capturing by recording just core signals:
- Raw material cost
- Work Operations (Labour)
- Landing cost
- Contracting fees
- the direct cost of goods
- transporting or landing cost
- positive and negative exchange differences between different currencies
- Raw materials used in Work Order (WO)
- Work Operations rendered during the manufacturing process