Product Cost Analysis 101Product Cost Analysis 101

DOE Phase I Commercialization Assistance

Program

Jon Sienkowski, MBA

September 4th, 2014

1

Outline

• Objective

• Motivation

• Pitfalls

• Definitions

• Cost Modeling

• Pricing Strategies

• Summary

2

Product Cost Analysis

• Objective:

– Provide small businesses with a framework to

estimate product cost early in the product cycle

• Approach:

– Iterative process – begin early in the product

cycle with a rough cost analysis and refine as

details become more clear.

• What this is not:

– Not all-encompassing

– Not aimed at companies selling services,

consulting, or software 3

0%

25%

50%

75%

100%

Motivation

The majority of product cost is determined in the conceptual stage!

Source: SAP

Maintenance Service

Conceptual Stage

Detailed Design

Supply Chain Production

Product Cost Realized

% o

f P

rod

uc

tC

os

t

Product Cost Determined

4Product Life Cycle Stages

0%

25%

50%

75%

100%

Motivation

The majority of product cost is determined in the conceptual stage!

Source: SAP

Most Companies are here during Phases I and II

Maintenance Service

Conceptual Stage

Detailed Design

Supply Chain Production

Product Cost RealizedProduct Cost Determined

% o

f P

rod

uc

tC

os

t

5Product Life Cycle Stages

Motivation

• The majority of product cost is determined in the

conceptual stage

• Companies should understand how their cost

changes with quantity produced

• Companies who are planning on licensing out their

technology:

– Need to have a good understanding of manufacturing viability

– Negotiate better royalty terms through understanding of licensee’s

manufacturing cost at volume

6

Cost Estimation Pitfalls

Do not use these methods to estimate cost:

• Part Cost = 2 X Material Cost

– Plastic injection molding: PEEK vs PE

– Catalyst: precious metal vs. non precious metal

• Part Cost = Material Cost + Direct Labor Time X

Burden Rate Multiple

– Accountants use this as a shortcut on established

processes => Not = reality

– Automation vs. manual labor

7

Context of Product Cost

8

Cost of Goods Sold (COGS) in Pro Forma Manufacturing Template

Definitions

Profit

SELLING PRICE = Revenue / Units sold

Product Cost

Operating Earnings (EBIT)

Operating Expenses

Material Cost

Manufacturing Cost

Gross Margin

COGS

COGS is the focus of today’s webinar9

Cost Modeling

10

Material Cost

Material Cost = Material Price X Gross Material Quantity

Manufacturing Process

Input Output

Scrap

Gross Material Input

Net Material Output (Finished Part)

Yield Loss (Scrap) is often overlooked at the first pass – can be a significant cost driver

11

Material Resources

• Resources for Raw Material Prices:

– Ask suppliers for “Budgetary Estimates”

– Chemicals: sigmaaldrich.com, alibaba.com

– Electronic Components: digikey.com,

mouser.com

– Plastics: plasticsnews.com/resin

– Metals: metalprices.com

12

Material Yield

• Yield loss generally comes from two sources:

1. Process Constraints

2. Defects - quality control

• Other material consumption:

– Consumable materials such as liners (reel-to-reel processes), solvents, sacrificial layers, packaging

Defects introduced early in the

process and caught late in the

process are costly

Extra material consumed due to

design or manufacturing

constraints

Source: Megtec

13

Scenario: Advanced Materials

• “GDEX Inc.” is developing a novel high

activity catalyst

• Only has lab based synthesis experience

• Strategy: produce material at pilot scale

(25 kg/yr), then license technology to a

large catalyst manufacturer.

• Target Price: $10/g for pilot volumes, $4/g

long term

14

GDEX Inc. Material Cost Example

• Ideal Batch Size: 100 g

– Precious metal, other metals, carbon powder,

acid, surfactants, other additives

• Yield Target: 95%

– Reality: 70% - getting 70 g of good product

from every 100 g batch.

• Overall material cost:

70 g

$350= $5/g

*note: recovery of precious metal was factored into $350 for simplification of example15

Material

Cycle Time

Labor Heads

Equipment Cost

Energy

Overhead Labor

Maintenance

Building Space

Tooling Cost

Manufacturing Process

Map out process flow:Receive Inspect

Materials, Set up

Process Step 1

Pack, Ship

Quality Control

Process Step 2

Focus on these factors

16

Material Cost $5/g

Cycle Time ? 24 hours 5 hours ? ?

Production Rate 100 g/batch (70% yield => 70g/batch)

Labor Heads

Equipment Cost $100K $30K

Energy Usage

Overhead

Maintenance

Building Space

Tooling Cost

GDX Inc. Process Flow

Inspect Materials,

Set up

Precious Metal

Deposition (Reactor)

Pack, ShipQuality Control

Filter / Dry

17

Process Flow Resources

• If you don’t know where to start:

– Patents

– Google images – search for process flow

diagrams for your technology

– Youtube videos – many from equipment

suppliers, How It’s Made, etc.

– Treat process step(s) as a “black box”• Make order of magnitude assumptions for investment, labor, etc.

• Iterate as you develop your product / process

18

Production Volume

Pro forma

Production Volume

Annual Unit Volume

Total Annual Mfg CostUnit Mfg Cost =

Production Capacity

• Cycle time, part volume, available production time

determines number of machines, labor heads

• Available Production Time:

Productions Days per year 240 - 360

Shifts per day 1-3

Hours per shift 8 (US norm)

Efficiency (Available Uptime) 75% - 90%

Total Available Hours 1440 – 7800 hrs

Cycle Time

Available HoursCapacity = X Batch Size X Yield %

20

Production Rate

• How to measure production rate?– How many units (parts, kilograms, square meters,

etc.) are produced per unit time (second, hour, day, etc.)

– Cycle time is the inverse of production rate

• Production rate dependent on:– Machine parameters, process physics, part

geometry, material type

– Physical model: chemical reaction rate, cooling time, deposition rate, thickness, flow rate

21

Material Cost $5/g

Cycle Time 24 hours

Production Rate 100 g/batch (70% yield, 75% uptime => Capacity = 13.1 kg)

Labor Heads

Equipment Cost

Energy Usage

GDEX Inc. Capacity

Inspect Materials,

Set up

Precious Metal

Deposition (Reactor)

Pack, ShipQuality Control

(yield = 70%)

Filter / Dry

2224 hrs/batch

250 days * 24 hrs * 75% uptimeAct. Capacity = X 100g/batch X 70% = 13.1 kg

Cycle Time

Available HoursActual Capacity = X Batch Size X Yield %

Pop Quiz

• Parts travel through a conveyor oven for one hour, 1 part comes out every 30 seconds.

• What is the cycle time for one part?A: 1 hour B: 30 seconds C: Neither

23

Direct Labor Cost

• Direct labor: people touching the part and/or operating the machines

• Wage Rates from Bureau of Labor and Statistics:

– Details for specific labor types such as machinists, assemblers, etc. can be found at: • http://www.bls.gov/oes/current/oes_nat.htm

– Benefit Rate (35% is a good starting point):• http://www.bls.gov/news.release/ecec.t11.htm

Labor Cost = # Labor Heads * Annual Wages * (1+Benefit %)

24

Annual Production Volume

Material Cost $5/g

Cycle Time 24 hours

Production Rate 100 g/day (70% yield, 75% uptime => Capacity = 13.1 kg)

Labor Cost

Equipment Cost

Energy Usage

Overhead

Maintenance

Building Space

Tooling Cost

GDX Inc. Labor Cost

Inspect Materials,

Set up

Precious Metal

Deposition (Reactor)

Pack, ShipQuality Control

(yield = 70%)

Filter / Dry

25

GDX Inc. Labor Cost

• Company plans to hire an additional technician

– Responsible for setup, operating reactor and drying

equipment, quality control, packaging and shipping.

– 75% of the technician's time dedicated to this product

– Process does not require an attendant overnight.

• $20/hr *1.35 = $27/hr including all benefits, $54,000

total per year @ 250 days, 8 hrs

• Don’t forget the effect of yield in your annual

production volume!

13.1 kg

$54,000 * 75%= $3.10 / g

26

Material Cost $5/g

Cycle Time 1 hr 24 hours 5 hours 2 hr 30 min

Production Rate 100 g/batch (70% yield, 75% uptime => Capacity = 13.1 kg)

Labor Cost 1 Technician, 75% dedicated to production = $3.10/g

Equipment Cost

Energy Usage

Overhead

Maintenance

Building Space

Tooling Cost

GDEX Inc. Labor Cost

Inspect Materials,

Set up

Precious Metal

Deposition (Reactor)

Pack, ShipQuality Control

(yield = 70%)

Filter / Dry

27

Equipment Cost• Fixed cost is depreciated over a set period of

time into product cost.

• Depreciation time typically 5-15 years

• Installation cost + auxiliary equipment cost is typically ~50% in addition to actual equipment cost

• Dedicated vs. Non-Dedicated Equipment

Equip cost + Installation cost + Aux Equip CostEquipment Cost =

Annual Production Volume X Depreciation Years

28

Equipment Resources

• Resources:

– Budgetary estimates from equipment

suppliers

– Alibaba.com

– Used equipment sites

29

GDX Inc. - Equipment

• Company investigated reactor equipment for

pilot unit

• Reactor list price: $100K

– With ancillary equipment and installation,

$150K was final assumption

• Decided on 10 years depreciation

• Equipment is dedicated to this product

• Batch size is 100 g, 24 hours for reaction

30

GDX Inc. - Equipment

10 years

$150,000= $1.15 / g

13.1 kg X

31

Equip cost + Installation cost + Aux Equip CostEquipment Cost =

Annual Production Volume X Depreciation Years

Material Cost $5/g

Cycle Time 1 hr 24 hours 5 hours 2 hr 30 min

Production Rate 100 g/batch, 70% yield => Capacity = 13.1 kg

Labor Cost 1 Technician, 75% dedicated to production = $3.10/g

Equipment Cost$150K, 10 yrs depreciation

= $1.15/g

Energy Usage

Overhead

Maintenance

Building Space

Tooling Cost

GDEX Inc. Equipment Cost

Inspect Materials,

Set up

Precious Metal

Deposition (Reactor)

Pack, ShipQuality Control

(yield = 70%)

Filter / Dry

32

Other Factors to Consider

Energy

Maintenance

Overhead Labor Cost

Building Space

Cost of Capital

• Low volume / pilot production: Bottom up sense

check is best

• Higher volumes: Rules of thumb are ok, but sense

check. 33

Material Cost $5/g (75% yield)

Cycle Time 1 hr 24 hours 5 hours 2 hr 30 min

Batch Size 70% yield => Capacity = 13.1 kg

Labor Cost 1 – 75% time

Equipment Cost $150K $30K $100K

Energy Usage 10 kW 3 kW minimal

Overhead $150K/yr (combining all other’s time for production, other expenses)

Maintenance $5K/yr

Building Space 2000 sq ft

GDEX Inc. Pilot Volume

Inspect Materials,

Set up

Precious Metal

Deposition (Reactor)

Pack, ShipQuality Control

(yield = 70%)

Filter / Dry

34

Material Cost $3.68/g (95% yield)

Cycle Time 5 min 24 hours 1 hour 30 min 5 min

Batch Size 10 kg 2.5 kg 500 g

Labor Cost 2 full time

Equipment Cost $30K $350K $60K $100K $10K

Energy Usage 30 kW 10 kW minimal

Overhead $500K/yr

Maintenance 3% of equipment cost

Building Space 5000 sq ft

GDEX Inc. High Volume: 1.9 Metric Tons/yr

Inspect Materials,

Set up

Precious Metal

Deposition (Reactor)

Pack, ShipQuality Control

(yield = 95%)

Filter / Dry

35

GDX Inc. Model Output

Other factors to consider: – Warranty, cost of capital (inventory, accounts

receivable)36

Pilot Volume High Volume(Long Term)

Material $5.00 $3.68

Labor $3.09 $0.06

Energy $0.46 $0.01

Equipment $2.63 $0.04

Building $1.47 $0.03

Maintenance $0.43 $0.01

Overhead $7.63 $0.26

Total Cost/Unit $20.72/g $4.09/g

A Word On Pricing

• Value Based Pricing: Successful businesses base pricing on value to customer

– Critical to understand value through customer interviews, secondary research

– Lifecycle $ savings, benefit offered by product

• Competition / Market Based Pricing

– What benefits does your product offer over competing product?

• Cost Based Pricing

– Based on % markup above product cost

– While widely practiced, not recommended

Resource: http://blogs.wsj.com/accelerators/tag/setting-the-right-price/37

Other Resources• PV Solar

– NREL:

https://sam.nrel.gov/

http://www.nrel.gov/analysis/key_activities_jobs_pv_mfg_cost.html

• Battery cost model, targets

– USABC Goals

http://www.uscar.org/guest/article_view.php?articles_id=85

– ANL Model:

http://www.cse.anl.gov/batpac/about.html

• Fuel cell cost

– PEM:

http://www1.eere.energy.gov/hydrogenandfuelcells/fuelcells/fc_challenges.html

http://www.hydrogen.energy.gov/program_records.html

– SOFC:http://netl.doe.gov/File%20Library/Research/Energy%20Analysis/Publications/FINAL_DG_SOFC.pdf

• Diesel/Gasoline Engine cost

– EPA/NHTSA Regulatory Impact Analysis

http://www.nhtsa.gov/fuel-economy/

– DOE Annual Merit Review and DEER Conference Presentations

http://www1.eere.energy.gov/vehiclesandfuels/resources/proceedings/index.html

• MIT Open Coursework – cost modeling:http://ardent.mit.edu/real_options/RO_current_lectures/ESD%2003%20Slides/Technical%20costmodel03.pdf

38

Other ResourcesElectricity Price Data:

• http://www.eia.gov/electricity/sales_revenue_price/

Natural Gas Price Data:

• http://www.eia.gov/dnav/ng/ng_pri_sum_dcu_nus_m.htm

Real Estate:

• http://www.cbre.us/AssetLibrary/USIndustrialMarketView_Q220

12.pdf

39

Summary

• The majority of product cost is determined in the

concept stage

• Companies must consider the relevant cost factors

for low volume manufacturing and higher volumes

even if licensing

• Use an iterative process, refining details over time

• Spreadsheet template will be available on eLearning

to get you started

40

Questions?

Contact:

Jon Sienkowski

jsienkowski@dawnbreaker.com

585-617-945941

Appendix

Non-dedicated equipment:

Overall Manufacturing Cost Calculation:

42

Cycle Time (Equip cost + Installation cost + Aux Equip Cost)Equipment Cost =

Avail Prod Time Depreciation YearsX

Annual Available Hours

Total Annual Mfg CostUnit Mfg Cost = Cycle time X