Most manufacturers have a good idea of their overall profitability, but not necessarily the profitability of individual products. Unless you track the costs of manufacturing each product, you’re missing an opportunity to maximize your profitability by fine-tuning your production, marketing and pricing strategies.
Doing the research
Determining product-specific costs can require significant work. You’ll need to figure out the direct labor, material and other costs associated with each product and come up with a reasonable method of allocating indirect costs among your products. Indirect costs may include things like overhead (rent, insurance and administrative expenses) and executive compensation.
Once this is done, you’ll gain valuable insights into the actual costs and profit margins of each product. Armed with this information, you can make strategic decisions about pricing products and focus your resources on manufacturing and marketing the products with the highest profit margins.
The results occasionally may surprise you. For example, you may discover that a product you thought was profitable is actually losing money. In some cases, it might make sense to discontinue the product, but not always. It depends on the product’s contribution margin, which is calculated by subtracting a product’s variable costs from its revenue.
If a product’s contribution margin is positive, then it’s contributing to the company’s overall profitability by helping to cover the company’s fixed costs. Because those costs would be incurred regardless of whether the product is produced, eliminating it would likely hurt profits rather than help.
If your company isn’t tracking and analyzing product-specific cost information, you’re essentially operating blind. Only by examining profit margins on a product-by-product basis can you identify strategies for boosting your company’s performance.
Detailed cost information can also help you evaluate new business opportunities. Familiarity with your company’s costs can help you determine whether a particular opportunity — a contract manufacturing job, for example — would be worth your while.
Tracking product-specific cost information can be challenging, but the benefits can be significant. Enterprise resource planning systems and other software solutions can help automate the process. Contact us at 330-453-7633 for help implementing a reliable, cost-effective solution.