Starting from Scratch with Bill-of-Material Costing for Manufacturing Companies

As a manufacturer, it is essential to comprehend that the expenses of your end product are the amalgamation of several distinct elements. That is where a Bill of Materials (BOM) proves beneficial; it is an extensive record of all the components, sub-assemblies, and other materials required to create your final product. It acts as an imperative tool to comprehend the original production cost.

With an accurate BOM, you can effectively determine the estimated time and expenses of producing any product. This will aid in forecasting and budgeting future projects, provide an itemized summary of all the costs associated with producing each item or product, and offer a detailed insight into the aspects of production that require improvement.

How to Create an Effective BOM From Scratch

To establish an effective BOM, here are three essential steps to keep in mind:

• Pinpoint the required components - Initiate by enumerating each constituent in the final product. This comprises raw materials, purchased parts, and subassemblies utilized in the item's production. Note that packaging should be considered as part of the components as well.

• Appraise expenses for each component - Proceed by examining the costs of each element and make a comprehensive breakdown of expenses for the BOM. Remember to incorporate wholesale discounts, transportation fees, and other expenditures relating to these constituents.

• Determine the total cost - Upon completing the list of components and corresponding prices, add all the values together to determine the entire cost of generating the item following your BOM.

Levels of BOM: Single-Level vs. Indented

There are two types of BOMs that you can choose from single-level or indented.

Single-Level BOM

This is the most straightforward type. A single-level bill of material has one list of items and components made solely of parts used in a particular product.

Indented BOMs

Indented bills of materials show the hierarchical structure of assembly processes and how each part fits into the overall system.

Routings, Operations, and Work Centers

In addition to the Bill of Material components that make up a finished product, there is also the time-based costs of producing a product. This is generally considered to be the labor associated with manufacturing a product, but may also contain overhead elements should the company decide to calculate overhead based on manufacturing time.

Routing is a collection of steps done to make an item (operations) on a particular assembly point, such as a machine (work center) in the facility. Through a number of straightforward calculations that include run rate, labor loading, labor rate, work center efficiency, and change over time, the objective is to calculate the labor cost/unit. Most ERP systems are excellent at taking known inputs and calculating this automatically.

Overhead and Additional Cost Elements

There are a number of additional cost factors that the company should decide on including in the BOM Cost based on their significance to the final cost and the appropriateness of including them in the manufactured cost calculation. Since margin calculations will ultimately be made against this derived cost, including additional cost elements gives a more clear and more complete picture of what the company truly invests to make a product.

Here are some, although not a comprehensive list, of the items that may also be included in a BOM cost:

• Defective goods cost rolled back into the cost of the QC-passed products

• Scrap or waste on raw materials during the manufacturing process

• Plant overhead such as repairs, maintenance, spare parts, safety equipment, utilities, tools, etc.

• Royalties

• Freight

• Accruals for upcoming expenses

• Indirect Labor

Determining BOM Costing Methods: Standard Cost vs. Actual Cost

Here's a quick guide to understanding these two methods.

Standard Cost

Standard cost is the estimate used to measure the performance of actual costs over time. This method uses expected labor, materials, and overhead costs associated with producing a product. The standard cost approach assumes all costs are fixed and known in advance.

The advantage of this method is that it is easy to set up and use. All you need to do is establish a standard cost for each component in your bill of material—things like labor, materials, overhead, and so on—and then compare the final BOM cost against that established standard.

Actual Cost

Actual cost takes into account changes to the price of an inventory item over time — making it more suitable if your manufacturing process involves dynamic pricing or multiple vendors.

The advantage here is that it offers more accurate real-time costing data than the standard costing method since it considers changes in pricing on components over time — which means you'll have more accurate pricing data when costing out BOMs. On the downside, tracking those price changes over time may require more effort.

Linking BOM to Your Manufacturing Resource Planning (MRP)

Linking your Bill-of-Material (BOM) costing to your Manufacturing Resource Planning (MRP) system is an integral step toward optimizing operations and ensuring precision. Integration with computer-aided design (CAD) software allows for quick rendering and modeling of products.

Subsequently, the BOM data is fed into the MRP software to generate production orders and material requisitions and track inventory levels. Furthermore, vendor records can also be managed and stored in the MRP software for efficient reference.

With streamlined operations and greater accuracy, BOM costing proves to be an essential component in the success of any manufacturing enterprise.

To maximize manufacturing efficiency, an MRP system must keep up-to-date with vendor pricing information.

Leveraging ERP Solutions to Manage Complex BOMs

Using an ERP solution for your BOMs makes it easier to:

• Monitor Inventory levels in real-time

• Estimate costs more accurately by accounting for each component's labor, materials, and other expenses.

• Generate reports automatically to provide insights into component performance and improvement areas.

• Streamline procurement processes by integrating production, inventory, and financial data.

Parting Shot

With the right ERP solutions, companies can be confident that the BOM is accurate and up-to-date and that cost calculations are correct and easily accessible. For more information on starting from scratch with bill-of-material costing for manufacturing companies, follow JohnHannanLLC on LinkedIn.