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The Hidden Costs Of Manufacturing

Who remembers the game The $64,000 Question? Well here it is: "Why are you in business?" I have heard answers ranging from "to sell jewelry" to "I am following my passion". Both are nice answers, but ultimately we are in business for one reason: to make money! Whether you are a designer starting out, a retailer getting more into custom work and subsequently manufacturing product, or a manufacturer yourself, there are ways to maximize your profits while controlling costs.

So let’s start with the basics: Costs are the money you spend to make your product. The easiest, most obvious, and most likely the largest component to your cost will be direct materials. That said, there are additional important factors to consider, including but certainly not limited to: labor and indirect costs. When calculating GROSS Profit, remember you start with Sales and subtract your Cost of Goods Sold. Cost of Goods Sold is comprised of Direct Materials, Direct Labor and Direct Overhead (allocated indirect costs). You need to make enough gross profit to cover the rest of your expenses (the rest of the unallocated indirect costs), and at the end of the day, have a NET profit (the money you walk away with in your pocket).

When looking at labor costs, there are two types of labor, direct and indirect. Indirect Labor is what you pay your support staff that does not directly get involved with the actual production of the product, such as your customer service team or accounting department. Direct labor is the labor directly associated with the production of the product. Sounds pretty straight forward, right? But if, for instance, you are using an outside caster, when including labor costs as they pertain to your castings, consider that not all outside casters use the same fee structure. Some casters include their labor charge in the price per gram/dwt. Others may charge for the metal and then add a price per piece for labor as a separate line item. If you are manufacturing the product yourself and casting it, there is still the labor cost associated with the person that is physically doing the work, meaning the person that directly "touches" the piece of jewelry. These types of labor charges are included in direct labor. When pricing your product make sure to capture all the direct costs associated with producing the product, including direct materials and direct labor.

Indirect costs are often overlooked and forgotten. These include any costs that do not pertain to the direct production of the product. Some of these costs are rent, payroll taxes, insurance and utilities. Some of these costs are easier to distribute than others. For instance, payroll taxes, when calculating your labor costs discussed above, make sure to include all payroll taxes that you have to pay for the employee such as your portion of social security. Other indirect costs, such as your rent and utilities, may be a little harder to allocate. There are many ways you can do this. Think about the expense you are trying to allocate and then choose the method for the base. For instance, when dealing with rent, if you rent a 4-room space and 3 out of those 4 rooms are used for production, you can justify 3/4 of the rent towards direct overhead. If however, you are trying to allocate your health insurance costs, and 2/3 of your total payroll pertains to direct labor, then you would allocate 2/3 of your health insurance costs to direct overhead.

Many times expenses such as rent and utilities are what they are. However, there are indirect costs that you can try to control. One such cost is postage. Do you often send product from one location to another? If so, can you centralize or combine these packages? Can you email your statements instead of mailing them? Can you pay bills online? Are you maximizing the use of your own UPS/FedEx account and having your suppliers use your number to take advantage of any discounts you may be getting on your side?

More and more companies today are becoming "manufacturers" in our industry and joining the established firms. From overseas companies and designers setting up shop, to retailers doing custom jewelry work in house, to those that have been doing this work for close to a century, manufacturing can be a very lucrative revenue generating stream. However, if not managed properly, manufacturing can also become a big drain on your assets. So whether you are an established manufacturing company or new to the scene, don't get complacent, keep reviewing what you are doing and always try to do it better and more efficiently. Remember, at the end of the day you are in business for one reason: to make money!

AT: 01/01/2014 12:58:25 PM   LINK TO THIS ARTICLE

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