Topic: General Posts

Subject: Cost basis for Profitability by Product
Joseph Tarzia
Member: 2017
Posts:4
Submitted on 06-06-17 10:56 am
Message:

Hello - I am building a report that will present profitability by product and I need to build out the fully loaded cost per service employee, per hour.


Currently, I am taking each employees actual gross salary hourly rate, and adding in budgeted taxes and benefits to arrive at a fully burdened salary per hour.  I am adding to this a fixed amount of budgeted rent & occupancy costs for the month, by employee and budgeted T&E by month, by employee.


To those who have experience in developing hourly costs for project/product profitability reporting, does this sound correct?  If not, what would you propose in order to arrive at a fully loaded cost, per employee, per hour?


The service team already logs their time on a project and customer basis.


Thank you in advance for all of your suggestions and recommendations!


 

 
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Replies
Ricardo Ibaven
Member: 2017
Posts: 2

Subject: Re:Cost basis for Profitability by Product

Submitted on 06-06-17 5:41 pm.
Message:

Dear Joseph,


Nice meeting you.


Based on your message, I believe you have a pretty good idea on how to calculate it. Total salary + benefits + taxes + fixed costs (sometimes you add % of merit increase if you are analyzing future periods). There are 2 portions of the fully burden, variable and fixed; I noticed you are in Telecommunications service company, so I guess all related costs are considered fixed.


You mentioned you have a budget and based on that you will add the rest of the costs, it makes sense. If possible, I always use annual figures (or Year-to-date when it i actual analysis) to come up to a rate since monthly amounts might have tricky sometimes due to the seasonality or calendar days. Also, when you want to check your results, is easy to validate the rate by comparing it with your annual budget, for example:


Total calculated rate * total hours per employee * # of employees = This should be close to your budgeted expenses (Salaries and fixed costs).


Since you are doing a profitability analysis, this gives you an idea if the rate makes sense. Also, you might want to compare it with prior periods, other products or other locations/industry.


If you are required to send or present your results, it is always a good idea to make sure you show clearly the assumptions you made for this calculation, for example:


"The total hours assumed for this excercise are...."


"Salary, taxes, benefits and additional costs are based on budget 2017"


"Information is Year-To-Date May 20..."


"Allocations between products are based on..."


I hope this helps.


Regards!


Ricardo


 

 
Joseph Tarzia
Member: 2017
Posts: 4

Subject: Re:Cost basis for Profitability by Product

Submitted on 06-07-17 11:28 am.
Message:

Thank you Ricardo for your detailed reply and its a pleasure to meet you as well!


Happy to see that I'm on the right track and I'll confirm my fixed cost assumptions based on your suggestions.


I am actually in SAS, not telecommunications, so I'll have to see about changing that in my profile.


Hope you have a great weekend!

 
Sam Aul
Member: 2017
Posts: 1

Subject: Re:Cost basis for Profitability by Product

Submitted on 06-26-17 12:33 pm.
Message:

It sounds like you are on the right track.


The only other suggestion I might make is to consider the effect of PTO & holiday time on your hourly rate.  If you have an employee that has 10 holiday and 2 weeks vacation, that is 20 days a year, about one full month (average ~21 work days) per year that you will pay them, but not get any production from them.

 
Richard Archer
Member: 2009
Posts: 24

Subject: Re:Cost basis for Profitability by Product

Submitted on 07-06-17 2:21 am.
Message:

Joseph, 


As the others have commented, it appears that you are on the right track with regard to calculating reportable profitability by product line. I have two cautions for your consideration:



  • In allocating the fixed costs to the various product lines, make sure that your allocation factor is actually a cost driver that applies to all of the product lines. There are many things that can be used as the basis for allocating fixed costs. It is fairly common in my experience for factors to be used that are easy to apply but have little relevance to the purpose of the allocation.


  • Try to avoid making management decisions about any of the product lines based on profitability after deducting allocated fixed costs. Instead, make the contribution margin by product line a key and highly visible number. I've seen too many situations in which executives take the final profitability number after fixed cost allocation as being accurate truth, make management decisions about the product lines, then can't understand why profits went down, instead of up, after the decisions were implemented. Once something appears in a management report without being accompanied by clarifying information or disclaimers, people accept it as true.



Good luck with your efforts.


Best regards,


Richard

 
Michael Meyer
Member: 2006
Posts: 2

Subject: Re:Cost basis for Profitability by Product

Submitted on 07-18-17 11:43 am.
Message:

Joseph,


I always recommend not including the fixed costs - rent, etc. as those items can flucuate based on changes to the environment.  The fully loaded cost should reflect a comparison to gross profit.  I do believe you should add their travel and supplies costs (annual $ divided by annual hours).  Also you should factor in a percentage of non-billable hours.  Typically people are only utilized between 60 - 70% (training, vacation, sick, holidays, etc).  Once you arrive at the fully loaded cost you would then apply the utiization percentage to the hourly total.  


 


Michael

 
Joseph Tarzia
Member: 2017
Posts: 4

Subject: Re:Cost basis for Profitability by Product

Submitted on 07-19-17 11:52 am.
Message:

Big thanks to all for your guidance and input.  And apologies for my late reply, I went from vacation, to Q3 close, to Board Meeting prep, so only now catching up.    

 
Rob Caso
Member: 2001
Posts: 3

Subject: Re:Cost basis for Profitability by Product

Submitted on 08-04-17 12:46 am.
Message:

Joseph - as Richard mentioned above and as some of the other alluded to, contribution or perhaps "gross" margin is the way to go.  And make sure that this is defined in detail so that everyone knows what is in it and that it is applied consistently across product lines.  Don't fall into the trap of using the financial accounting definition although it all must ultimately tie out the attested financial statements in the end.  Use a definition that fits your company and that the managers agree with upfront since then they cannot argue against it later.  Remember, this is "management" reporting used to run the business and not external financial reporting used for compliance.


One last, make sure also everyone knows what is in "net sales" or "net revenues" at the top.  In Pharma land where I come from there are a number of deducts from gross sales that tend to get buried in net.  Invariably, these items wind up be controllable by management and therefore the management thereof has a direct impact on product profitability.


Rob

 
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