The labor/ overhead rate for any cost center may be described by LOHCC LD ER B G&A 2 where LOHCC The labor=overhead rate for a specific cost center in dollars=hr LD The direct la
Trang 1for any budgetary quarter Finally, general and
admin-istrative costs are the cost of top executives' salaries
and centralized plant computing facilities The labor/
overhead rate for any cost center may be described by
LOHCC LD ER B G&A 2
where
LOHCC The labor=overhead rate for a specific
cost center in dollars=hr
LD The direct labor rate; dollars=hr
ER The expense rate; dollars=hr
B Burden in dollars=hr
G&A General and administrative cost rate
in dollars=hr The dollar amounts for burden and general
adminis-trative costs expected to be expended during any
quarter are divided by the total number of direct
labor hours to be expended to determine the burden
and G&A cost rates in Eq (2)
The mechanics of the capital budgeting process are best illustrated with an example This example is the subject of the following section and has been adapted from Ref 5
2.5.2 A Capital Budgeting Example Consider a manufacturing plant with a total of 1000 employees Suppose it is desired to determine the labor/overhead rate for the machining cost center 22 For example purposes we will assume that cost center
22 has a total of 200 employees Of this total we will further assume that 150 are involved with direct labor activities
To begin our analysis, we need to know the rest of the cost centers that exist and the respective number of employees in the plant that are associated with them These stang levels are illustrated inTable 5 In Table
5, there are a total of four cost centers on which direct labor is performed These include cost centers 21, 22,
23, and 42 which are Manufacturing Engineering, Machining, Assembly, and Inspection respectively
Figure 3 Revised cost estimate grid
Trang 2labor activities The total indirect costs to be recovered
are summarized in Table 7
Column 6 in Table 7 includes no entries for cost
centers 21, 23, and 42 because these indirect costs
will be captured in their entirety when the budgeting
process is repeated for these cost centers There is no
entry in the same column for cost center 22 because the
procedure assumes that cost center 22 must pay for all
of its own indirect costs This is applicable for all cost
centers that include direct labor activities
The expense rate, ER, for the cost center may now
be determined The total of the entries in column 6 of
Table 7 is $1,599,916 The indirect costs on cost center
22 ($350,000) are added to this total This sum is
divided by the total number of direct labor hours
expected to be worked in cost center 22 during the
quarter (72,000 hr The result is
ER$350,000 $1,599,916
72,000 hr $27:08=hr
2.5.5 Burden Determination
There are two types of burden rates to be considered
The ®rst is the burden for cost center 22 itself The
second portion is for all of the pure indirect labor
cost centers As with the expense rate, the burden on
cost center 22 must be recovered in its entirety during
the quarter The burden for the rest of the indirect
labor cost centers is charged proportionally to cost
center 22 on the basis of the total number of employees
on each of the direct labor cost centers
We assume that the burden on cost center 22 is
$500,000 and that the total burden for the quarter on all of the indirect labor cost centers is $1,000,000 The burden rate then is calculated as
Total Burden $500,000 $1,000,000 200=550
$863; 636 Burden Rate B $863,636=72,000 hr
$11:99=hr 2.5.6 G&A Determination
We assume that the total dollar value of G&A to be recovered for the budgetary any quarter is $400,000 This amount is prorated on the basis of total direct employees and is charged to cost center 22 as
$400,000 200=550 $145,440 Therefore, the G&A rate per hour is G&A $145,440=72,000 hr $2:02 hr 2.5.7 Hourly Rate Determination and Adjustment
The four components of the labor/overhead rate for cost center 22 have now been determined These com-ponents may now be summed as speci®ed by Eq (2)
Table 7 Proration of Indirect Costs for Cost Center 22
center salary ($) 1=4 ($) employees column 4 ($) 200/500 ($)
Total 1,599,916
a Number of indirect employees out of total on cost center.
b Total must be recovered in its entirety by cost center 22.
Trang 3to determine the labor/overhead (LOH) rate for cost
center 22:
LOH22 $10:00=hr 27:08=hr 11:99=hr
$2:02=hr 51:09=hr This procedure is repeated for the remaining direct
labor cost centers, 21, 23, and 42 Each LOH rate
obtained is an estimate or forecast This is because
the dollar values of indirect labor, burden, and
G&A, are estimated values Likewise, it was estimated
that 72,000 hr would be worked during the quarter on
cost center 22 As the budgetary quarter is completed,
actual values of indirect labor, burden, G&A, and the
number of direct labor hours worked will dier from
the estimated values used in the LOH rate
computa-tion This is also true of the average direct labor wage
rate used in Eq (2)
Cost engineering personnel will collect actual values
for each of these parameters at the end of the quarter
This will permit an actual LOH rate to be determined
This actual rate will be either greater or less than the
budgeted rate prior to the quarter that was calculated
above If the budgeted rate is greater than the actual
rate, excess costs will be recovered If the budgeted rate
is less than the actual rate, insucient costs will be
recovered
A common practice is to compare these budgeted
and actual rates for all direct labor cost centers over
several quarters Subsequent estimates for the
para-meters in Eq (2) may be adjusted upward or
down-ward, as appropriate, in subsequent budgetary periods
to make the actual and budgeted LOH values more
closely approximate one another
2.6 ACTIVITY BASED COSTING
Activity-based costing (ABC) has gained increased
popularity in recent years as a more accurate
alterna-tive to conventional careful budgeting methods for
some manufacturing activities [14] Some cost analysts
have questioned the accuracy and validity of the use of
direct labor hours as a proration basis variable in cost
recovery
Some organizations have found that conventional
capital budgeting cost recovery methods are not
ver-nier enough to accurately estimate overhead costs and
indirect labor amortization Implementers of ABC ®nd
that their organizations have often been grossly
under-charging their customers for small-volume production
end items High-volume items often have in¯ated
pro-duction cost values with conventional cost recovery methods
2.6.1 Cost Center De®nition With ABC, the number of cost centers is usually expanded to encompass small work cells, or even indi-vidual machines Consider a work cell that contains one new and highly automated ®ve-axis machining center Suppose this cell contains ®ve other manual, conventional machine tools
With this work cell de®nition, parts processed by the work cell might not be accurately charged for the manufacturing procedures they require during the fabrication process The overhead rate for the cell will seek to recover the costs of all of its machines Parts entering the cell that require processing only by the cheaper, conventional machines, might be unfairly charged overhead for the automated machining center, even though they did not require processing by this piece of equipment
A better cell de®nition might be to de®ne the auto-mated machining center as its own work cell The older conventional machines might be grouped together in a second work cell This philosophy can result in more than one hundred separate cost centers, many of which may consist of only one machine
This type of cost center de®nition enables the cost of manufactured end items to be determined as a function
of those manufacturing procedures arid services they consume or require during their manufacturing process sequence This is true for both direct and indirect labor and materials The cost recovery methodology for ABC is the subject of the subsection that follows 2.6.2 ABC Cost Recovery Methodology
Activity-based costing de®nes a cost rate per unit time that is associated with each de®ned work center or center This rate has been described by Ramachandran et al [7, 8] and is illustrated by
RD;i CDL CD CU CFS CT CI CIL CO
HB
3 where
RD;I Hourly operation cost of direct labor work center i in dollars per hour
CDL Cost of direct labor in the work center over the budgetary period in dollars
CD Cost of depreciation for equipment in the
Trang 4work center during the budgetary period in dollars
CU Cost of utilities attributable to the work
center during the budgetary period in dollars
CFS Cost of building ¯oor space attributable to
the work center during the budgetary period
in dollars
CT Cost of taxes attributable to the work center
during the budgetary i period in dollars
CI Cost of insuring the work center's
equipment and ¯oor space during the budgetary period in dollars
CIL Cost of indirect labor required to support
the work center during the budgetary period
in dollars
CO Cost of fringe bene®ts, other overhead, and
any supplementary indirect labor wages required by the work center during the budgetary period in dollars
HB Estimated or capable number of hours
during the budgetary period that the work center is expected to operate
Some of the parameters that make up Eq (3) require
interpretation Suppose a total of m direct labor
employees work in a given work center, i, during a
budgetary period The direct labor cost can then be
described by
CDLXm
j1
where:
Lj Hourly pay rate including beneEts for direct
labor employee j in dollars per hour
Nj;i Number of hours worked by employee j in
work center i during the budgetary period
2.6.3 ABC Operation on a Quarterly Basis
The process of assessing the accuracy of work center
rates using Eq (3) is similar to the capital budgeting
process previously described Prior to a given
budget-ary quarter, estimates of all parameters is Eq (3) must
be compiled to,determine a budgetary or forecast cost
rate for all direct labor work centers At the end of
each quarter, estimated parameters in Eq (3) are
com-pared with actual values at the end of the quarterly
budgeting period This enables an actual work center
cost rate to be determined
If the actual rate is less than the estimated or bud-geted rate, the plant has overcharged for the services of the work center If the reverse is true, the plant has undercharged products for the work center's use Comparing actual and projected work center rates on
a quarter by quarter basis gives the cost analysis some basis for adjusting follow-on estimates for each of the parameters in Eq (3) This facilitates the compilation
of more accurate budgeted work center rates in future budgetary quarters
2.7 QUICK-RESPONSE ESTIMATING AND ESTIMATING SOFTWARE
Manufacturers often ®nd it necessary to supply cost estimates with extremely short lead times Quick-response estimating systems rely on parametric esti-mating techniques Parametric estiesti-mating entails the development of mathematical relationships that relate the product's manufacturing cost to salient, identi®-able features of the product being manufactured Other factors considered in the estimating equation are production quantity and the number of times the end product has been previously manufactured 2.7.1 Development of Estimating Equations Multivariate regression analysis is a tool that can be used to develop parametric estimating relationships Both linear and nonlinear equations can be ®tted
to historical cost data using this approach Many spreadsheet packages currently permit multivariate regression analysis to readily be completed on a perso-nal computer
It is important to assess the quality of obtained curve ®ts that relate product cost to features of a the end item being produced A coecient of determina-tion (r2) of at least 80% is recommended It is also important that developed estimating relationships be validated before being used This may be accomplished
by dividing historical cost data bases into two parts The parametric equations can be developed using the
®rst half of the historical data The developed relation-ships can then be ``tested'' on the second half, compar-ing projected cost from the obtained equations, with actual historical costs that were incurred in practice 2.7.2 De®nition of Part Families
Estimating relationships should be developed by part family For example, cost data used to make an FM
Trang 5radio should obviously not be used to estimate the cost
of an automobile drive shaft Group technology (GT)
de®nes manufacturing production cells that are
dedi-cated to producing parts with geometrically similar
attributes Coding and classi®cation methods are
used to de®ne families of parts that are manufactured
by GT cells Often, parts within de®ned GT families
are candidates for the use of the same parametric cost
relationship
Group technology lends itself most readily to
metal-working operations For electronics manufacturing,
part family de®nition must be more intuitive
Example part families for electronics manufacturing
might be as de®ned below
Point-to-point wired cables
Printed circuit board assemblies
Wired chassis assemblies to interface printed circuit
boards
Interface wiring between separate chassis assemblies
Metalworking operations to punch and machine the
chassis prior to interfacing wiring
2.7.3 Production Mix
Parametric estimating systems are much easier to
implement in high volume, low mix types of
produc-tion environments Organizaproduc-tions should expect to
make an investment on the order of person-months
to person-years in terms of statistician and cost
engi-neering time to develop and validate such relationships
prior to their being used
2.7.4 Development and Use of Estimating
Software
In many cases, software is developed to assist in
expediting the completion of cost estimates and order
quotations to customers In most cases, it is more
expe-ditious to generate such software ``in-house'' as
opposed to procuring commercially available software
packages
Such software must have the organization's product
line ``embedded'' within its architecture This
require-ment often makes it necessary to modify commercial
software packages Required modi®cation costs can be
extensive enough to justify ``company-generated''
soft-ware This justi®cation is enhanced by the fact that
many commercially available estimating software
packages are extremely expensive Commercially
avail-able software is also usually di cult to interface with
the user organization's historical cost records
Parametric estimating relationships, if previously developed by the organization, are easily incorporated into estimating software that is written ``in-house.'' In-house software is not necessarily less expensive, but is almost always more useful to the organization in the long run
2.8 IMPACT OF AUTOMATION ON ESTIMATING PROCEDURES Manufacturing automation has, and continues to have
a dramatic eect on conventional estimating proce-dures High levels of automation reduce the amount
of human direct labor associated with the manufacture
of parts Overhead costs are increased, usually due to the procurement of expensive automated machining centers, industrial robots, and assembly equipment Indirect labor costs tend to increase due to program-ming and maintenance costs
Product quality is generally enhanced as a result of automation This has a positive eect in reducing war-ranty and return costs Cost variation between parts and groups of parts is greatly reduced Machine cycle times are more constant, and except for unscheduled maintenance, are functions of programs for the machines and transfer mechanisms This makes the incorporation of learning curves (previously described), of less importance than for manufacturing procedures that incorporate low automation levels Production, inspection, and part transfer times that are machine dependent need to be incorporated in cost estimates that will use these manufacturing facilities and machines The large capital investments tied up
in automated manufacturing facilities increasingly mandate the use of activity based costing The indivi-dual work center de®nition and cost rates provided by ABC more accurately associate automation costs with end products that use or consume automated facilities and resources during the manufacturing process Automated equipment is almost always more expen-sive than its conventional counterpart Manufacturing automation results in recurring costs associated with more expensive maintenance, programming costs (gen-eration, debugging, and storage) When a plant invests heavily in automation, there is extreme pressure to have high equipment utilization levels This may prompt the use of such equipment for some parts that might have otherwise been manufactured by cheaper, more conventional methods
The cost increases and savings associated with man-ufacturing automation have been described in detail by
Trang 6Butler et al [7, 9, 10] These authors have developed
software that enables prospective users to assess the
net cost increase or savings associated with
manufac-turing automation alternatives Readers desiring more
information on this subject are urged to consult these
references
2.9 SUMMARY
This chapter has overviewed manufacturing cost
esti-mating and recovery techniques and methods There
have been many books that have been devoted
exclu-sively to the extensive coverage of these topics Readers
desiring more information on any of the subjects of
this chapter are urged to consult the list of references
that follows
REFERENCES
1 M Malstrom What Every Engineer Should Know
About Manufacturing Cost Estimating New York:
Marcel Dekker, 1981, pp 1±48
2 PF Oswald Cost Estimating for Engineering and
Management Englewood Clis, NJ: Prentice-Hall,
p 1±4
3 R Vernon, ed Realistic Cost Estimating for
Manufacturing Dearborn, MI: Society of
Manufacturing Engineers, 1968, p 1
4 EM Malstrom, ed Manufacturing Cost Engineering Handbook New York: Marcel Dekker, 1984
5 EM Malstrom Cost estimating and control In: R Veilleux, ed Tool and Manufacturing Engineers Handbook, vol 5 Dearborn, MI: Society of Manufacturing Engineers, 1988, pp 4.1±12
6 EM Malstrom, RL Shell A review of product improve-ment curves Manuf Eng 82(5): 1979, pp 70±76
7 DP Butler, EM Malstrom, K Ramachandran A com-puterized ABC model for a job shop environment AACE Trans, June: 1995, p 9.1±3
8 K Ramachandran, DP Butler, EM Malstrom A com-puter assisted model for activity based costing Proceedings of the 22nd International Conference on Computers and Industrial Engineering Cairo, Egypt, December 1997
9 DP Butler, EM Malstrom, SC Parker A tutorial model for the economic evaluation of automated manufactur-ing systems Cost Eng 38(6): 1996, pp 25±32
10 DP Butler, EM Malstrom, SC Parker Assessing the true cost savings associated with the procurement of automated systems Technical paper MM93-384 Dearborn, MI: Society of Manufacturing Engineers, 1993
11 CM Creese, M Adithan, BS Pabla Estimating and Costing for the Metal Manufacturing Industries New York: Marcel Dekker, 1992, p 12
12 EM Malstrom, W Beatty A cost recovery methodology for automated manufacturing workcells Cost Eng 34(5): 1992, pp 15±20
13 PE Ostwald, ed Manufacturing Cost Estimating Society of Manufacturing Engineers, 1980, p 9
14 ER Sims, Jr Precision Manufacturing Costing New York: Marcel Dekker, 1995