Increase Profit Margins With Precise Labor Costing Technology

Where variances in labor cost or performance can impact margins significantly, it is crucial to know exactly what labor costs are as they are occurring.

One of the most important, but least measured components of the automobile is the tire. In the past we could visually inspect the tread, but it was challenging to know if it was under-inflated. Compounding the problem was that in most situations, the car seemed to be operating normally.

In reality the under-inflation often found in tires was causing faster wear, lower mileage, and reduced handling and braking performance. The challenge was that the only accurate way to measure tire pressure was to use a pressure gauge, which was too time consuming for most.

For cars manufactured after 2008 there is a better way. Manufacturers now install sensors in each wheel that automatically measure the pressure and alerts drivers when the pressure is below recommended values. As a result there are 8,500 less injuries annually due to low tire pressure. Mileage can also be improved by up to 3 percent when the tires are inflated properly.

This technological advance in tire pressure monitoring can serve as a metaphor for advances in labor costing technology. Standard Costing for labor might seem good enough. But behind the scenes, there is likely an insidious buildup of poor labor decisions that is negatively impacting profit and competitiveness.

Today there is affordable technology that enables manufacturers to accurately track and allocate labor costs — including tough-to-pin-down variable labor costs. The result: precise labor costing that helps manufacturing operations focus on their most profitable products, cut costs, and stay ahead of the competition.

Why standard costing can actually hurt the manufacturing operation

Where variances in labor cost or performance can impact margins significantly, it is crucial to know exactly what labor costs are as they are occurring. The problem is that cost center based systems also used to deliver financial reporting don’t provide the frequent, granular information that the people delivering value-added operations can act upon. Instead, just as in years past with tires, manufacturers are left to estimate their labor performance and costs, and suffer sub-optimal performance as a result.

Here’s why: standard costing provides highly summarized labor costs and lets management know when costs deviate from expectations, but they don’t provide the detail by product — or in time to impact performance. Using information organized by cost center also averages labor costs over many products, which artificially inflates the cost of producing some products and deflates the cost of producing others. The result is that operations doesn’t know where and how labor costs are leaking, and management doesn’t know how much contribution margin each product delivers.

Many manufacturers try to compensate for these unknown labor costs by adding a percentage to their reported variable costs to generate what they feel is their actual variable cost. This practice is generally safe when margins are high but it won’t help a manufacturer gain a competitive edge when every other manufacturer is doing the same thing. Knowing exactly what the variable costs are, and accounting for them correctly, is what can lead to gaining a distinct advantage.

Take the common example of customer-requested services. Customers can frequently ask that a particular product be expedited; employees may want to please the customer so they agree, but what if the labor expense to hasten the process is greater than the revenues derived? Since there is often a lack of control around special customer requests, standard costing makes it nearly impossible for management to tell where this drag on profits is originating.

Manufacturers who know their exact costs can increase their contribution margins by charging more for those products, or focus on reducing waste or shortening lead times if the products aren’t competitive. They can also ensure that the entire organization is focused on engineering, marketing, and selling their highest-margin products. Advanced workforce management technology and labor analytics provide the visibility and real-time information that enables a manufacturer to accomplish these objectives.

Workforce management helps drive profits with insight into variable labor costs

Manufacturers already tend to collect the four components of labor costs (wages, premium pay, benefits, and actual efficiency), but in different areas of the organization and in different formats. The time and manpower required to reconcile scattered data to determine actual labor costs is often not considered worthwhile.

An automated workforce management solution brings all these scattered elements together and allows manufacturers to allocate actual variable labor costs to production. This helps account for how every labor dollar is spent, even when the labor picture includes complexities such as different wages, premium pay, partial shifts, and team allocation — or when the value stream extends beyond production and includes engineers, distribution and field support. Variable labor costs can be attributed directly to their specific products, helping manufacturers determine the actual contribution margin of their products and services.

Because this data is collected, reconciled and reported throughout the day, managers also gain real-time visibility into what’s happening on the shop floor and can act on issues immediately. Material delays, machine downtime, and changed delivery dates can be spotted in time to redeploy employees, which helps minimize delays and added, unexpected costs.

When manufacturers use workforce management for accurate labor costing, they can see if, where, and how labor costs are leaking. This helps an operation understand which products provide the most contribution margin, and subsequently prioritize the production, marketing, and selling of those products.