Category Archives: Shop Rates

Classification Of Costs – Fixed and Variable Costs

There are many facets of costing and breaking costing into these four categories helps in understanding

  • Fixed and Variable Costs
  • Direct and Indirect Costs

Costs are generally classified as to whether or not they vary with the quantity of parts being manufactured.  Many times this can be described as a Setup Cost because it does not vary with the quantity of parts being manufactured. In manufacturing this can be setup costs, travel costs, staging costs, etc.   The other type of fixed costs would be rental space,  insurance, administrative salaries which do not change based on the quantity of parts being produced.

Variable costs are more directly related to the quantity of product being produced like material and labor costs.  Both material and labor costs are increased with the amount of product being produced.  Other type of variable costs are electricity, consumables like welding supplies, heating and even possibly maintenance tasks that must take place every x parts being produced.

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Engineering Costs

Engineering costs for many years have basically been included in the standard burden rate of the shop.  There are many situations now in this world where manufacturing is very competitive and technical that the standard burden rate of the shop cannot include all the costs associated with the engineering costs.

Direct Engineering Costs

Direct engineering costs would include things like design work, engineering, prototyping, testing and tooling design work.  Many job shops today have become turnkey where they don’t produce just a single small widget which is easy and simple to engineer, cost and manufacture.  On the other hand the jobs that manufacturing companies are required to produce can be very extensive including everything from a small box to an entire machine tool made up of of 100′s or even 1000′s of components.   The costs associated with doing the initial engineering can be very extensive and rightly so.  Many job shops have CNC machinery and during the estimating process to arrive at the most accurate costs they actually program and sometimes even manufacture the prototype.

Indirect Engineering Costs

Indirect engineering costs include computers, software and man power required to assist in manufacturing the product.  The costs of these indirect engineering items can be extensive and should be allocated across the job that uses these tools.

MIE Solutions provides software resources to help you manage your direct and indirect labor throughout the product life cycle from quoting and estimating, job costing to invoicing.

MIE Solutions Estimating Software

Material Estimating

Material estimating can be simple to complex depending on the particular job you are estimating.   Raw material is a commodity which could include metal sheets, wood, bars, plastic, plates, block of metal, etc.  These items are purchased from a supplier and are usually priced at a per unit weight price.

A few examples

1. When the raw material is priced as a per unit weight the estimated costs at the high level is

( Part Weight ) * (Price Per Unit Weight)

2. When the raw material is priced per unit. An example would be the supplier would price a 48 x 120 piece of plywood at $22.00

(Units Required) * (Price Per Unit)

3. The raw material may be priced per linear length, example wood be a tube would be priced at $2.00 per linear foot.

(Part Length) * (Linear Length Price)

The supplier would potentially have a Price Per Unit Weight, Price Per Unit or Linear Length Price that would fluctuate based on the quantity being purchased.  In this case the supplier would give prices as shown in the example

Weight           Price Per LB

0                       $1.00

1000               $0.80

5000               $0.65

10000             $0.61

 

As shown above you need to know the Part Weight, Unit Required and or Part Length.   Next you need to know the price that will be charged from the supplier and you will have the cost.

In the next blog entry the calculation of Part Weight will be discussed.

MIE Solutions provides software resources to help you manage your direct and indirect labor throughout the product life cycle from quoting and estimating, job costing to invoicing.

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Direct Labor Costs

Direct labor costs are those costs which are performed during the production of some product.  The product can be any type of item from a machined part, computer and vehicle.  Labor is required to change a raw material into a product that may be sold or given away.  Direct labor is calculated by taking the direct time a product takes to create multiplied by the rate charged per hour by the processes.  The direct labor may actually be multiple steps on the production of the product. The total direct labor is  the sum of all the labor at the various steps during the creation of the product.  There are many examples of those that provide direct labor including Laser operators, CNC operators, Machine Shop operators, sheet metal workers, wood workers and many others.  You may think that direct labor is just the individual rate that you pay the employee but there is much more to it.  An employee has benefits including health insurance, sick days, vacation pay, FICA and other fees.  Adding up all the fees makes the hourly rate considerably higher than the hourly pay of the employee.

MIE Solutions provides software resources to help you manage your direct and indirect labor throughout the product lifecycle from quoting and estimating, job costing to invoicing.

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Manufacturing Costs

Manufacturing costs consist of multiple elements which arrive at the full cost.  When estimating a product to be manufactured the entire costs are distributed between the following elements.

Material Costs – This includes both raw material which is reshaped, formed, etc to produce the item and purchased prefabricated items like nuts, bolts, screws.  Raw material would be considered commodity items in which the costs may fluctuate widely.

Labor Costs – This includes the wages of the employee’s actually manufacturing the product.

Labor Overhead – This includes the overhead of the employee’s which include benefits.

Machine Costs – This includes the costs of running the equipment and machines to product the product.

Engineering Costs – This includes the costs like prototyping, testing, etc.

Burden – This includes all the other costs not included in the above.

An ERP software system should report all these costs in an easy to read format so the manufacturer can operate profitable.   Look for an ERP package like MIE Trak from MIE Solutions which is a ERP software for manufacturers.

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Fixed and Variable Costs

There are two main types of cost which are Fixed or Variable costs.  If something is being manufactured it consists of both fixed and variable costs.  Fixed costs are those cost that do not change based on a quantity.  That basically means the cost is fixed if you product 1 or 1000 pieces.  Some of these costs would be security, taxes, insurance and administration costs.   These costs are called Fixed because they do not vary with the quantity being manufactured or the level of production.  Variable costs do vary based on quantity and level of production.  Some examples of variable costs are direct material and direct labor costs.

There is a third category of fixed and variable costs which is often referred to as mixed costs.  Mixed costs are simple costs that are part variable and part fixed.  Example would be a heating oil or gas, there is a fixed amount that would be used regardless if the machines are running just to keep the building warm.   The variable costs would be the amount of oil consumed by the machine.

MIE Solutions provides a great solution to manage and organize all the costs required including both fixed and variable costs.

Try this estimating software.

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Job Costing Software

Job Costing has been around for many years to determine the cost of manufacturing a given product.  The process by which the expenses are record is costing.  Job costing software should make the process of recording the transaction simpler and not more difficult and time consuming.  Job costing software is not like cost accounting because it does not incur the situation of debit-credit transactions.  Job costing does use the same data to determine profitability and to evaluate all the cost of manufacturing the product.   Here are a few purposes which may help you determine the need for a proper job costing software package.

1. To determine the actual costs of the manufactured item.

2. To determine the total costs of all the components of a manufactured item.

3. To determine the standard price of the product

4. To determine the selling price of a the product which would include profit above the actual costs.

5. To determine feasibility of manufacturing the product at a profit

6. To evaluate the accuracy of estimates.  This is after the fact and the goal is to match or better the estimate cost.

7. To determine which components should be purchased versus those to be manufactured.  In the day and age of outsourcing it may be more cost effective to purchase some parts.

8. To compare the costs of manufacturing the item with different processes.

Costing is an essential component to the manufacturing processes because without it you would be waiting until the end of the month to see if you were profitable.  Also, you would not know what jobs were profitable versus the losers.

Try this estimating software.

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Cost Estimate Techniques

The basic cost estimate techniques involve analyzing the pieces that make up a cost estimate.  The first technique I would follow is to systematically go through the following steps and cost each one out in detail.  Once you have gone through the basic steps you will have all the cost information required for the estimate.

1. Design Cost –  This is step is skipped if you are manufacturing something for a customer and its already designed.  Still the customer may want some help in the design area.

2. Engineering –  This step is to engineer how the product will be made.  This could be exploding out the model into its component pieces, programming the CNC machines including turret, mill, laser and waterjets.    Costs hear may include the drafting costs.

3. Research and Development Costs – This step would entail items such as research and development work, prototypes for the customer which is very much required when doing new products.

4. Material Costs – This step would be to create an entire exploded bill of material list with items, quantities and supplier costs.  This step can be automated using certain CAD systems which create exploded bills of materials.  This information can be imported as an electronic bill of material file into estimating systems.

5. Labor Costs – This step would include both direct and indirect labor.  A thorough knowledge of the required manufacturing steps and operations to be performed is necessary.  Also, a knowledgeable person on the machines used and time required at each step is critical.

6. Quality Costs – This step would include all the quality items required to manufacturer the item.  This would include things such as SPC Inspection, regular inspection, scrap rate, first articles, etc.

7. Tooling Costs – This step goes well with the labor step where the labor operation may require specific tools which need to be purchased or made to manufacture or build the item.

8. Outsourced Services – This step is where you place the costs which are outsourced to other suppliers.  One example would be painting if the paint process is not done in-house.

9. Overhead Costs – This is the last step but very critical.  Overhead costs include all costs which cannot be charged to the specific product but still is incurred.

MIE Solutions provides a great solution to manage and organize all the costs required in this setup of cost estimating techniques.

Try this estimating software.

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Cost Estimate Types

There are different types of cost estimates including “Rough Approximation” of cost which can be a conceptual design, preliminary design and then a detailed estimate or quote.

Rough Approximation

The rough approximation is really prepared for informational purposes only.   This type of estimate may not have geometry or even materials but just a rough idea of the product.  This type of estimate would be used if someone is asking for a price to make a building of a certain square size or a box, etc.  A lot of times this would result in prices like $200 per square foot or $20 per pound.  Some examples of rough cost estimating would be highway costs per mile, weight of the object for shipping or linear foot cost to build cabinets.  This type of estimate and quoting can be good for a software system designed with CRM and quick estimating features where you would just type in costs.

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Preliminary Design

The preliminary design approach is similar to the rough cut estimate but you will know the materials.  This is basically a function  where you would cost out the materials and multiply it by some factor.  The factor you would use would be based on some variable of labor.  For example, to make a casting you would have a material and approximate weight.  You would take (Material * Weight * Price Per Unit Weight)*(Labor Factor).  The labor factor would adjust the price based on passed experience or similar jobs.  A CRM package with a good quoting system would be an ideal candidate for this type of cost estimate.

Detailed Estimate or Quote

A detailed cost estimate is one that fully details out the exploded bill of materials and labor.  Each component of the bill of materials is cost individually in order to arrive and a very accurate cost.  The labor is still a best guess in most situations but there are standards which may be followed to make the quote more accurate.   Example would be quoting jobs which require multiple labor steps to complete.  Even with automation, the labor step with is critical to quote accurately.  The end result of a detailed estimate or quote is a fully exploded bill of materials with labor which can be evaluated.  The larger and more complex the work is the more critical it is to have accurate quotes.  The goal is to create accurate, timely and consistent quotes.  Using a software package like MIE QuoteIt will improve accuracy, time and effort and consistency.

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MIE QuoteIt from MIE Solutions offers free quoting software for step by step quoting.  The quoting software is very user friendly and offers customization of operations, materials, formulas and even table lookups.   Please visit our website and take a tour of the free quoting software instead of the old method of quoting in excel.

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How To : Manufacturing Hourly Rate Calculation

Sheet metal, CNC shops, machine shops and many other job shops provide a valuable service to their customers.  For a job shop to be a profitable business, the service rate should cover the cost of doing business plus have a certain amount of margin or profit built into the price customers pay. If this is too low, you will be gaining new work but this will only last as long as you have money in the bank.   You business will fail because the owner needs to earn an income. If the price is too high, customers will choose a competitor. Some high level ways to calculate your hourly shop rate is shown below.   Hourly rate calculations are not that complicated but should be looked at carefully in order to be a profitable company.

    Equipment

  1. Calculate the cost per hour of operation and include a markup for maintenance hours in your calculation to determine a fully burdened cost per machine hour. The formula is: (machine purchase cost + expected lifetime maintenance cost) / expected hours of operating life. You can choose to do this per machine or an average of all machines.
  2. Labor

  3. Develop an hourly shop rate: (total annual labor costs + taxes + benefits + paid time off) / (total annual hours worked – breaks and training time). This is your direct labor cost per hour.
  4. Overhead

  5. Any costs not directly involved in machining a part is overhead. These include costs for administrative staff salary, equipment, furniture, building lease, maintenance and office supplies. Calculate the annual costs of these, then divide by total labor or machine hours for the year. This will be your overhead cost per hour.
  6. Markup

  7. Here’s where the shop earns its keep. The owner’s income and future growth for the shop depends on this calculation working well. Simple calculation is markup = 1 + (owner’s salary + benefits + annual earnings goal) / annual service hours) / (machine + labor + overhead cost per hour). Converted to a percentage, for example, this will come to something like 120 percent, basically adding 20 percent profit to the cost of doing business.
  8. Service Rate Calculation – Average Rate

  9. Use this formula when your machine costs are fairly similar from one piece of equipment to another: Average overall shop rate = (average machine cost per hour + labor and overhead cost per hour) x markup x total hours for the job.
  10. Service Rate Calculation – Machine-Specific Rate

  11. Use this formula when cost of equipment varies greatly from piece to piece and not all machines are used in each service. Rate = (specific machine(s) cost per hour + labor & overhead cost per hour) x markup x total hours for the job.

MIE Solutions offers a made to order job shop ERP system designed for the manufacturer of goods and products.  Most accounting systems are designed for the basic AR, AP and GL side of financials where a manufacturing software product deals with the actual production of the goods and services.   MIE Trak is a full featured ERP system for the made to order and engineer to order manufacturer.

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