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Costing Jobs and Determining Hourly Rate

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Plastic
Joined
Oct 30, 2011
Location
Northeast U.S.A.
I am a co-owner and I have several debates with the other owner about costing work and determining hourly rates. My way of thinking is more focused on determining what our direct costs/overhead costs are and then determining profit and final pricing from there. The other owner sticks to that it should be based on an hourly rate.
My apprehensions to basing purely off of a hourly rate is how should this be determined. As an established shop shouldn't the hourly rate be determined off of the past years history or should it be determined like, well machine shops are charging around $75/hr and our shop is sort of like theirs so we should also charge $75/hr.
How does the 75$/hour get calculated? Shouldn't it be based on the number and size of machines we have and the number of employees and the benefits we offer and our site costs? Just because company A down the street charges $75/hr maybe they can because they got better deals or have inferior equipment. Maybe we should charge $100/hr.

I understand that jobs requiring specialized machines are costed on a case by case basis but how should the meat and potatoes machining be costed?

I did a quick search to see if any other topics existed and couldn't find any.

If I am asking the age old question, I'm sorry. I'm just looking for feedback from other owners who have to go through this. We have several jobs that we lose money on. Of course we're fearful of losing the business but I like to go to sleep at night knowing our pricing is fair and if our customer expects us to lose money then we need to find new customers our start planning to close. I like to look the customer in the eye and show them all the costing and say "we have to raise our price 5 - 10% to at least break even or make a tiny bit of profit and here's why we don't think you can get this job done anywhere else in the area for this price". Of course we get beat out by shop just looking for sales revenue then the customer sometimes comes back after they realize that we were telling the truth.

Thanks in advance for any replies.
 
Not any info but.....
Better to stay home and sleep in, play with the kids, take an afternoon nap, etc. than pay a customer to do their work.
 
The method I use for a job shop. Make a spread sheet of overhead expenses (don't include raw materials for jobs or subcontract work) last year. Payroll, taxes,machinery payments, any shop expense not charged to a customer, advertising, permits, rent, utilities, vehicles, etc. Do it by month, but you will be able to determine and average monthly expense (call this overhead). Now take your total sales for each month and subtract material and subcontract costs (call this net sales). Monthly net sales better be larger than monthly overhead or your heading in the wrong direction. Now take the number of monthly billable labor hours (total of hours worked on jobs per month) (labor hours). Divide your overhead by your labor hours to give you a break even $/ hour figure. Add a profit to that figure and you should be close to what your shop rate needs to be. That's my .02$ That's whats been working for me for 30 years.
 
This is just my opinion, and I only spent a couple months on this end of things... There are reasons why I didn't do well at it, but I don't think this is one.

An hourly rate is nice to know for internal work, and quick guestimating.
An hourly rate is worse than Useless for giving to customers.

So you take 3 hours a part to do a job and charge $75/hour.
And I do it in 30 minutes, but charge $400/hour.
Many customers would chose #1 because they don't know how long a job will take or should take.
But #2 is cheaper, and would get the job done sooner assuming same # of machines & machinists working.

The other big issue I see with an hourly rate is the implication that everything in the shop costs the same.
The 1 million dollar 5-axis mill with a highly skilled guy programming, setting up, and running costs the same is the summer student moving skids around??? Or you don't pay the summer student or the fork lift so thats free!


No matter how a job is charged out I think its important someone watches the profit of them.
Profit is the purpose of business after all.
Just a note, if your not making profit raising prices isn't the only option... You can also reduce costs.
 
The method I use for a job shop. Make a spread sheet of overhead expenses (don't include raw materials for jobs or subcontract work) last year. Payroll, taxes,machinery payments, any shop expense not charged to a customer, advertising, permits, rent, utilities, vehicles, etc. Do it by month, but you will be able to determine and average monthly expense (call this overhead). Now take your total sales for each month and subtract material and subcontract costs (call this net sales). Monthly net sales better be larger than monthly overhead or your heading in the wrong direction. Now take the number of monthly billable labor hours (total of hours worked on jobs per month) (labor hours). Divide your overhead by your labor hours to give you a break even $/ hour figure. Add a profit to that figure and you should be close to what your shop rate needs to be. That's my .02$ That's whats been working for me for 30 years.

You, and everybody else RJT. That's just how its done. The problem is, if you don't specialize, the competition is fierce! Volume is key. OP, if you are doing jobs that you consistently loose money on, you need to do one of 3 things:

1. figure out a cheaper way to accomplish the job (a fresh perspective from a different set of eyes can sometimes open your own eyes!)
2. raise your prices (on those jobs). why are you loosing money? who quoted it? how was it quoted? have you always lost money on those jobs? material costs gone up? high scrap percentage? why are you loosing money?
3. put it out for bid yourself, and see what comes back! you never know. those jobs may become a "pass-through". you don't make any money on them, but you keep the customer, and free up shop time for better paying work?

unless you specialize, your shop rate will absolutely be dictated to some extent by other local (and sometimes not so local) shops. But you do first need to establish that necessary base rate. And use it for quoting.

I have 3 different rates:

1. Programming
2. Set-Up
3. Cycle-Time

I use all three on every single job that comes through the door.

I know that we are making it sound "so cut-and-dry". And that its really Is NOT. there are thousands of variables. But you still need to establish that base-rate. then adjust accordingly (sometimes on a per job basis) to stay competitive, not price yourself right out of the game, and above all make money. the first thing you need to do is quit working for free or less.
 
Getting a $ / hr figure is how I quote a job, I don't give that information to customers. I give them a quoted price to do a job. And yes it is just a guide, I add a premium for wire EDM or work done on other high dollar machines. But you have to start somewhere. You still have to have a good idea of how long it's going to take you to do a job when you quote it if you use this method. If you have a $ / hr rate calculated, quote 50 hours to do a job, and complete the job in 90 hours, you are pissin in the wind.
 
In a nut shell here is how we do it.

Each machine cost so much to run so cost per hour can vary:

The cost of the machine itself to run i.e. a 3 axis machine cost less that the same size 4 axis machine... let's say for this example...the 3 axis cost to run is $25/hr and the 4 axis is $35/hr ...a manual lathe may be only 8 bucks per hour. (this is cost over the estimated life of the machine of its act. cost, wear and tear, service, and repairs)

Materials, tooling, fixtures

The hourly cost of labor (including taxes, insur. and employee benefits) to set up and run the job and machine. let's say $38/hr.

All other OH cost...$3 ( example...building cost, air, quoting cost)

Profit margin for the company... say 20%

Finally...If your abilities or available services to make the part are unique, you may be able to say charge another 25% ( another way of looking at it is...Can you make this part faster or better than your competitors, or turn it around really fast when no one else can? Or, maybe, you have a talent to make it that no one else does)

Last or almost the same as above... Will the market bear charging more without really calling it price gouging?...

As a lot of us have said before, some jobs are worth more per hour than others. Some customers are higher maintenance than others, so your rate could be higher for them.

The numbers I used here are not the ones we use, I just pulled them off the top of my head, along with the categories. If your going to be successful in your business, IMO, you will someday needed to move in this direction and address these issues.

We use a spreadsheet to quote. One thing I do do is if my bid for a particular job is 100 bucks I multiply that number by 1.28 for the final price ($128) to get the correct quote because I tend to bid jobs low. That is my correction factor. My partner, on the other hand, doesn't need a correction factor. He goes straight off the spreadsheet.

Getting too much work or working too many hours to do the job is the results of not charging enough. Getting not enough jobs when work is plentiful and doing the work you do have to fast ...is too high of correction number. I like my correction to average doing the work in about 90% of the time allocated.

IDENTIFYING YOUR TRUE PROFIT IS AN ABSOLUTE NECESSITY TO BE SUCCESSFUL. PROFIT IS NOT YOUR WAGE YOU PAY YOURSELF.

Good luck and RJT is right...it is none of the customers business how you come up with you price. It is propitiatory information. I put this at the bottom of my quotes: "The recipient of this quote and CGM are obligated to treat this information as proprietary." They want their prints protected... and I want my quotes protected...no sharing with my competitors to get the price down.

As Johnny N says below (I'm editing my first post for syntax) Sometimes you do lose money on a job...but most of the time...(if you are not taking a calculated risk to get a new customer)...you will go belly up if you don't get a handle on the losses. Worst case is to try to "zero out" on profit, but make your expenses on a job, rather than lose money. If you lose money on a job, it should be because you did not figure out how to do it in less time or more efficiently.

Steve:codger:
 
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Dont forget you can 'loose' money on an job, and still be much better off than not doing the job (assuming fixed costs, and paying wages for a set number of hours a week regardless). In a perfect world every job will be profitable, but sometimes you have to do a lot of crap work to have the doors open for the 'cream' jobs that come along.
 
Dont forget you can 'loose' money on an job, and still be much better off than not doing the job (assuming fixed costs, and paying wages for a set number of hours a week regardless). In a perfect world every job will be profitable, but sometimes you have to do a lot of crap work to have the doors open for the 'cream' jobs that come along.

While I know what you mean here ,I think it is easy to end up on a slippery slope, doing a job that doesn't really pay to keep the shop busy in a slack time it can seem that some money is better than none but you can soon end up filling the shop with these jobs so there isn't time for the ones that really pay. On the other hand I think everyone does a bit of low paying work,now and then, for a good customer just to keep the other work. When a supplier decides that a good profit has to be made on every job, previously good relationships can soon turn bad same as when the customer decides they must source everything at lowest possible cost.
 
I'm a Cost Accountant so I can provide some input here.

Firstly having a "shop rate" is great as it is quick and easy to work out a price. However in larger shops offering different services it's too simplistic.

Let me also say that cost has nothing to do with price - I know, sounds odd but I'll explain. You should know what each service you offer costs and use this as a comparison as to what you can charge for the service. If costs exceed the price chargeable then you don't do the work - This is a binary decision, i.e. you either do the work or not.

The price of the service is determined by the market and /or your assessment of what the customer will bear - good old fashioned supply and demand but not costs.

In a larger shop where you operate your million dollar 5 axis cnc next to that 30 year old engine lathe, it makes little sense to build in the overheads for the cnc machine to cost work done on the engine lathe in one shop rate and that's why multiple rates are required. What you need to do is categorise the services you offer and have a "shop rate" for each.

How is the shop rate calculated? While last year's costs are a guide, the correct way to do it is to divide budgeted costs by budgeted labour hours for the current year for each of the services offered. Where a job requires more than one service add the costs together to provide accurate costings.

As a side note, where you take on a job as a loss leader, what you are really doing is factoring in an intangible into the price received for the job. For example a long standing customer is in a bind and you decide to do a job for him below cost to help him out - What you are really saying is that the goodwill (or sense of satisfaction for being charitable if you are that way inclined) exceeds the losses incurred.


Well, that's the right way to do it but basing prices off a "shop rate" is quick but remember it is dirty too.
 
The way it's done in our corporate world is much as you describe in your original post.
Everything in factored in, including replacement capital costs for the equipment. Insurance, labor, bennies, utilities, building, external costs (taxes, fees, permits, EHS costs), basically everything. Technically, each machine has a unique cost based on replacement capital cost. This divided by the number of billable hours and that determines your hourly rate - for COSTS. I've worked quite a bit with our cost accounting analyst but still don't understand *all* of it. In order to quote you need the base hourly rate, then the cycle time, which machines, perishable tooling costs, fixturing costs, material costs, scrap rate, etc.
 
I agree mostly...

...with the last two posters (12 and 13) However,I do not feel that doing a rush or to get a good customer out of a bind job below its cost is a good thing to get into doing. It can become expected as the norm. You should charge and be paid appropriately for the job done by the cost time and overtime incurred.
We have had to charge upwards to 400-500 plus an hour to do some jobs. Got it done on time and the customer happy as could be because we saved them hundreds of thousands of dollars.

One other note to keep in mind... that to be successful you need to keep a handle on what I like to call the "monthly mean average cost to profit ratio". Sure, it can fluctuate at times, but it must always average in the profit zone in long run.

Steve
 
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hmmm - I never suggested a job should be accepted below cost. What I said was that if it is, you are in effect putting a value on an intangible such as goodwill that exceeds the monetary loss.

That intangible may be worth considerably more than monetary loss and again, that value is a matter of judgement.

Personally, I would rarely do it.
 
hmmm - I never suggested a job should be accepted below cost. What I said was that if it is, you are in effect putting a value on an intangible such as goodwill that exceeds the monetary loss.

That intangible may be worth considerably more than monetary loss and again, that value is a matter of judgement.

Personally, I would rarely do it.

Davester, I'm actually agree with you in special cases...I edited my original post to say: "(if you are not taking a calculated risk to get a new customer)" just for your reasoning in your post. Grin.

Steve
 
I work on the other side of things. I design tools and send out RFQ's to job shops. If I call in a favor for a rush job, I expect to be charged accordingly. I don't want to be part of someone losing money to push my rush job to the top. I'm also extremely hesitant to bring in a new vendor. I've developed a level of trust with the people I deal with. There's a serious value with *knowing* the tool is going to show up right the first time. I can't afford to send a tool back for re-work (now you're compromising my credibility when I said something would be done on X date). I'd rather pay the premium to someone I can trust than risk the lowest bidder. I guess my point is don't underestimate what you're worth. And quality sells more than anything else.
 
Davester,

In reply with Post #12 " For example a long standing customer is in a bind and you decide to do a job for him below cost to help him out ", to Post #15, "hmmm - I never suggested a job should be accepted below cost. What I said was that if it is, you are in effect putting a value on an intangible such as goodwill that exceeds the monetary loss."

If he IS in a bind, you, AS a "bidnessman" SHOULD be getting at LEAST shop rate!

You would have no qualms charging a walk-in garage inventor 75 to 100 an hour to turn down a shaft. But you will cut a regular customer, in a panic, a break, when you need all the income you can get to keep afloat.

Some of you are not fit to BE Shop Owners. I am not one. OK? You MUST determine your annual costs, power, Insurance, wages, benefits, rent, YOUR hoped for take home, your cost of material, but that can be folded into the contract, if it is not cold or hot rolled basic, which you should already stock.

Once you know what it is going to cost you to be IN business, you calculate your hourly cost. You HAVE to make a profit, it is not a dirty word.

What you can't do is set a price that is TOO high, you will not get work, too low, you will lose money. You will have to have enough to live for a year or so, till you build up a clientel.

You NEVER give a regular, Corporate customer, a cut-rate job, because he IS a regular. You MIGHT give that 10 YO with the broken bike axle a break, don't charge him 75 an hour.

Hell of it is, I am talking to young people, those who never had a broken axle as a problem, to be fixed. Your Gen would tell Dad, "My bike broke, I need a new one." ""OK, lets go to the store."

Different generations.

George
 
I studied cost accountancy a couple of decades ago as part of my degree, and Ive run a shop since, so Im not talking out of my playstation arse. To clarify my post #10.....

You need 700 money units a week to make profit, and you work 5 days. The market price for widget 'a' is 100, and you make 4 of them a week, and each takes a day. You make one 'widget B' a week, it takes a day and get 300 for it. You are making your 700 money units a week, even though you are 'loosing' money for 80% of your time you are there.

Widget 'a' might be 100, becasue someone else is better at making them than you. Widget 'b' might be 300 becasuse you have a process thats unique. There is only demand for one widget 'b' a week. If you dont make widget 'a' at a 'loss' you loose a lot more money than if you diddnt make it at all!

Of course, the above is a gross over simplification of a business in a market, but the basics are valid. I suppose a macro extension of the principle is a 'weekly rate' for your shop of an average of all the jobs that go through.

(edit, so Like I said in post #10 you sometimes have to do a lot of crap work, for the doors to be open when the cream job comes along :) )
 
If he IS in a bind, you, AS a "bidnessman" SHOULD be getting at LEAST shop rate!

gmatov,

That's a value judgement that you are entitled to make in your business. Others may cut that back to win a volume order for example.

You then cite a couple of examples where you wouldn't charge "...at LEAST shop rate!" and that is how the world works.

The OP is asking how the shop rate should be calculated which is the real question here.

The point I am trying to get across in these circumstances is that while you do not receive the cash equivalent of your shop rate, you may receive an intangible which also has value to you. This may be goodwill or you may believe being competitive on a job will bring in more work from the customer in future. This is not engineering or machining but accepted economic theory.

Accepted practice is to base price on a shop rate - very easy to come up with a number but somewhat simplistic and as you point out, can lead to pricing too high and losing a job etc..

The simple answer to the OP's question is as follows:

1. A rate should calculated to determine cost, not price
2. Price in a competitive market for the product/service is set by the market
3. Where there is no competitive market price is determined by judgement of the vendor / negotiation
4. What you receive for a product/service is not always all cash but still has value (Intangible)
5. Where Price + Value of Intangibles > Cost then the job should be undertaken
6. There may also be intangibles that need to be included on the Cost side, Risk for example
7. For larger shops offering varied services, different shop rates for different services are appropriate
8. Cost for each service is normally calculated by (Direct Cost Budget + Overhead Budget) / Labour Hours Budget and of course materials are to be factored in


That's how a Cost Accountant would approach the question, I do accept others approach it differently.

I believe JohnnyN is making a marginal cost argument which is correct and although this is getting further into Economic theory it is a sound approach. I will try to explain simply:

The "Shop rate" approach costs all units of production as a fixed average. In reality, we all now that to make one unit costs more than a thousand units and at the other extreme if we made 5 million units that cost will need to go up to cover storage, financing etc.

On the other hand the more we produce of a product, it's price in the market place will fall, so we are not dealing with constants but moving values of both cost and price. The economic rule is to produce up to the point where Marginal Revenue = Marginal Cost as this maximises profit.

What this means is as long as you are covering your marginal costs on a job, anything above that will be a contribution to covering your overheads or to profit. From a practical perspective, where you have spare capacity, any work > than marginal Costs should be undertaken.
 
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The only jobs I do which don't really make shop rate are ones that I don't have the kit to do in an efficient way ,if someone walks in with one of these jobs I turn them away, but if it is for a regular customer I would take the job on ,if I could, as I tend to offer a service where my customers don't go elsewhere unless they have to. This has actually paid off many times as once you are part of a project you tend to pick up lots more from it ,"you gotta be in it to win it".
 
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