Costing is the system of computing cost of production or of running a business, by allocating expenditure to various stages of production or to different operations of a firm. Costing is the deciding factor of the prices and the important thing to be followed in all important stages like purchase, production, marketing, sales, etc. The cost calculation in the textile industry is still almost exclusively based on the production cost data.
Costing is the deciding factor of the prices and the important thing to be followed in all important stages like purchase, production, marketing, sales, etc. Very good knowledge and experience is very much essential for doing successful marketing and sales. Also update knowledge about everything related to textiles, is essential to make perfect costing.
Costing at the detailed product level may be your key to survival, are we selling enough goods above variable cost to cover fixed costs and to create profit?
The textile pipeline has a widespread variety of product styles and possibilities, company sizes, organizational characteristics and technologies. In spite of that fact, all of them share the textile chain complexity. The resources optimization and lead-time optimization have become enterprise priorities. In that sense, the total cost of a product must be known at the early design stage, with the maximum of accuracy in order to simplify the trial and error process.
The first problem for cost estimation is the total cost allocation of the product. In fact, the total cost has now more indirect cost components, which is a non-negligible share percentage. because all the activities are being done at different places, the actual supply chain is more complex, and this fact has changed the product cost structure.
The cost calculation in the textile industry is still almost exclusively based on the production cost data. A current industrial practice is to estimate the indirect costs (overheads and general sales and administration) as multiplication of the production cost by an index factor. Specifically in the textile and garment industry, showed consecutively that the indirect cost allocation does not have the same behaviour and variations as the direct cost. In fact, direct cost usually varies with the level of output, standard time and raw materials consumption. However, the design cost and the indirect cost (overheads sales and administration expenses) cannot be estimated as direct cost factors. In other words, these indirect costs do not necessarily follow the same patterns for all products. For that reason, more accurate cost allocation methods as Activity-Based Costing (ABC) has been introduced, but seems not to be yet widely used in the textile and garment industry. Some criticisms indicate that the main reason for this will be that ABC is more complex and time consuming that traditional costing systems.
During the process of order confirmation, the importance of confirming market requested price is too often neglected. This may very well lead to accepting orders for items priced under variable cost and rejecting orders, which their price maybe under our average full cost, but well above the variable cost. Order confirmation is NOT only about on-time delivery, important as it is, accepting or rejecting the sales price is the real key to profit.
Much energy, systems and resources are invested in on-line calculation of delivery dates while cost calculation remains a marginal preoccupation, being left to the accountants who calculate actual costs after product has been produced and shipped, an effort which has no effect on the bottom line (Post Mortem as opposed to proactive costing).
Standard proactive costing, based on the standard manufacturing database at the most detailed product detail level and accurate margin calculation, may well be your key to success, the key to profit.
The challenge is to know the variable cost and margins of an order before order and sales price is approved, considering detailed product details lead times, sales costs, detailed manufacturing cost and order quantities.
Classification of Costing Methods
Standard cost is the cost of producing the requested product at the requested quantity detailed to the consumed component level of both materials and cost elements such as labour, energy etc.
This can be achieved by calculation of the cost per machine hour, broken down to the smallest measurable element. For example, a Stenter machine hour cost is calculated by adding the operator hours involved, the KW hours of electricity consumed, the steam Kg used and all other consumed elements, adding to that the fixed costs, detailed by element allocated to each hour.
Costing by machine hour allows the maintenance of the consumptions independent of product and allocating the amount to each unit produced by the variable hours it consumes on that specific machine.
Costing by consumption units such as KWH of electricity Man hours by operator type, allows for simple maintenance and easy simulation of "what if" scenarios in case of element unit price fluctuations.
Knowing the cost and margin of each order line before acceptance allows decision makers to confirm or reject an order price by actually knowing the accurate margin of that order before production, this leads to rejecting lines far under the variable cost , avoiding rejection of prices above variable cost but under "full average" cost and prioritizing orders by maximizing contribution per scarce resource hour. When working in an environment where capacity is available, any order which can contribute with a positive margins towards covering fixed costs is acceptable, while when working at full capacity prioritizing orders creating maximum margin per machine hour is preferable.
Margin is the difference between the selling price and the variable costs, variable costs are the costs directly related to the manufacturing of the particular order, hence very often even labour cost may be considered fixed for short term analysis.
Cost Estimation Methods
For the textile and garment industries, there exists in practice, two main estimation methods: the analogical and the analytical cost estimation. The last method which may be of interest, is the parametric cost estimation, not yet applied within the textile sector.
Analytical cost estimation
Traditionally, the analytical approach is the most demanding in terms of data volume and details. At the design stage, the analytical method allows evaluation of the cost of a product from a decomposition of the work to elementary tasks and parts (bill of materials). then, one estimates respective costs of these tasks. This method uses data stemmed from the accounting department of the company. In practice, the estimating of costs by the analytical method is used during development and production phases to estimate the production costs of a new product.
Analogical cost estimation
This is a comparative method, based on physical similarities between current products and a new product. the analogical method allows evaluation of the cost of a product compared with costs of other already existing products.
Parametric cost estimation
Today, parametric models are widely used throughout the world, and often are used as a primary or, in some cases, the sole basis for estimating. They are especially useful at the earliest stages of design in a program where detailed information is not yet available. The parametric model is a series of Cost Estimation Relationships (CER) ground rules, assumptions, relationships, variables and constants that describe and define a specific situation. The main advantages in using CER are:
It allows the user to provide quick estimates without a great deal of detailed information. The CER are based on actual product cost history, and reflects impacts on cost growth, schedule changes, and engineering changes.
There are three main decisional steps directly correlated to costing estimation:
- Product design phase: At this stage, before the complete definition of the product, parametric models can correlate costs to the main characteristics of the design the product, in order to obtain an accurate cost estimation.
- The definition of manufacturing strategy: It allows to understand the influence of different possibilities in an "offshore" strategy, in terms of lead time, production configuration and location, lot size, risk assessment and complexity of the product. This estimation must take into account all the cost components for each supply chain possibility, in order to:
- Build and evaluate different scenarios or variants.
- Make economical evaluation of several suppliers.
- Make strategic investment and technological choices.
- The quotation and negotiation process: The process can be cone taking into account the internal process complexity, or aggregated capacities in industrial clusters. Also, it must include other variables consuming resources such as: delivery time and delivery place, replenishment frequency, change in business environment conditions and risk evaluation.
Parametric Cost Modelling Steps
The parametric method involves collecting relevant historical data, and relating it to the final product to be estimated through the use of data analysis, mathematical and statistical techniques.
- Cost Drivers Selection
- Data Collection
- Regression and curve fitting
- Test of the CERs statistical quality
- Selection of the best CER