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[Audio] . BCG Matrix - Overview, Four Quadrants and Diagram.

[Audio] . Product Existing Market Penetration Strategy Market Developn•ent Strategy New Product Developn•ent Strategy Diversification Strategy.

[Audio] BUSINESS MANAGEMENT Module 3: Costing (Cash-Out) MECN3067A By DR B SAREMA.

[Audio] Agenda Why Costs Matter Cost implications of product offering Using QFD to control costs Cost Build-up using the Economic Production System Adjust for Scale & Accuracy Make or buy Decisions Convert to Cash-flows Manage risk.

[Audio] Why Cash-Outs Matter Why is the question of cash-out (think costs) very important? In your group assignment you estimated the projected or future cash-in. Similarly, we need to estimate the future cash-out We need to estimate accurately the future cash- out (costs) that the business will incur.

[Audio] Why Cash-outs Matter Accuracy in estimating cash-out is crucial. (think costs and timing). It informs us whether our business is viable or not, sustainable or not Cash outflow is derived from inputs and processes necessary to produce the product or service Two of the biggest costs are on the manufacturing side and distribution side Manufacturing side Other costs: taxation, etc Inputs Transformation Outputs Processes Distribution side The offer (Obtained from accounting books) Note that many businesses fail due to getting this wrong i.e. product and services that surround it Budget speech.

[Audio] Why Cash-Outs Matter To estimate cash out-flow link the product offered to the process necessary to provide it While the physical goods costs are often clear, the service aspects of the offer also have cash outflow implications Other cash outflows include legal requirements, taxation, etc May be estimated from accounting information Usually less than costs in production and distribution.

[Audio] Why Cash-out Matter ? Previously, we mentioned latent assumptions and said they need to be well-defined. We now want to define some of these for an offer The offer will be the product + services that surround it For every offer (which brings cash-inflow) i.e. both product + services surrounding it, there will be implications for cash-out Class Exercise --- Give an example of a service that surrounds a product for which people make a latent assumption --- What is the cash-out implication of this service?.

[Audio] Cost Implications of Product Offering. Cost Implications of Product Offering.

[Audio] Some links between cash-in and cash-out Item Cash-in Offer Effect on cash out Quality High quality ? Dependability Same as competitors ? Speed Delivery better than competitors ? Flexibility Making special products to satisfy customers ? Price Low price per unit ? Promotion Everybody will beat a path to our doors to buy our product ? Place Generally available through all stores ? Manufacturing side Distribution side Adapted from Snaddon 2009.

[Audio] Item Cash-in Offer Effect on cash out Quality High quality High quality resources ( Labour, Capital, Materials) High quality process High quality control Dependability Same as competitors Process and control at least equal to competitors Speed Delivery better than competitors Fast delivery system or Being closer to potential customers Flexibility Making special products to satisfy customers Greater capacity Flexible resources Price Low price per unit Low cost per unit (to survive) Promotion Everybody will beat a path to our doors to buy our product Telling everyone what your product is Telling everyone where your product is Place Generally available through all stores What is the distribution? How much does it cost?.

[Audio] Using QFD to control costs. Using QFD to control costs.

[Audio] Linking the offer to the firm’s resources and processes For a particular offer there are specific factors that are important e.g. flexibility in producing different volumes required by the customer may be more important than the cost Since the firm’s resources should be properly utilised to maximise benefit, one should find a way of linking the particular offer to the resources and processes of the firm One way of linking the particular offer to the input (resources) and processes is by applying the tool: quality function deployment (QFD) or House of Quality.

[Audio] QFD or House of quality Scores at the penultimate row of each column are the sum of products of ‘priority’ score and strength of links e.g. selling column score 10 = (0 x 2) + (10x1). At the ultimate row, these are then arranged in order of relative importance It can be seen that the QFD prioritises resources and processes to see which ones, when improved, make the offer superior to those of competitors After QFD Focus on important resources and processes to produce the offer efficiently From Snaddon 2009.

[Audio] Cost Build-up Using the Economic Production System.

[Audio] Cost Build-up Using the Economic Production System Next Describe the full physical process of making the product (from buying labour, materials & capital) to delivering the complete product to customers, to after-sales service and collecting cash TRANSFORMATION OUTPUTS INPUTS.

[Audio] Building up costs Generally, the way to build up costs is to --- start with the physical method of producing and --- decide what Capital (K), Labour (L) and Material (M) must be put into the transformation process Overall costs are divided into total capital required (K) + operating costs (L & M) To start costing, the budgeter needs Descriptions of the physical product and processes that will deliver the services Before estimating the capital (often spent at the introduction of the product) and operating costs (L & M) spent periodically Capex and Opex.

[Audio] Build up the Overall Costs Step 1. Design of the product --- The physical goods + services --- The goods need a general arrangement drawing (CAD) for more accurate costing a detailed drawing is required to generate a BOM Step 2. Design the buying, manufacturing and selling, including after- sales services. (The services that surround these e.g. quality, speed, … need to be built in) Start with the design and processes.

[Audio] Drawing of Step Ladder & Bill of Materials.

[Audio] To build up overall costs Step 3. Design the processes --- e.g. inspections to ensure goods are made to specified levels of quality e.g. inspections of schedules to distribute goods to customers --- Which other processes could we design? --- Where do you see Wits Engineers having an advantage in this endeavour? Class exercise.

[Audio] To build up overall costs Specific attention to tasks can enhance advantages e.g. employee selection and general management associated with quality, data processing and scheduling with speed, etc. Some methods that help plan for product advantages (quality, speed, dependability and flexibility) are as follows..

[Audio] Approaches to generating process requirements Product offer Some methods Comments Quality TQM, SQC, ISO standards Auditing, QC, QA & QMS costs Time – Speed Capacity planning and aggregate planning e.g. CPM, MRP, Line balancing, Gantt charts and waiting lines. Layout design using e.g. Computerised Relative Allocation of Facilities Technique CRAFT, Planning Relationship Diagramming Procedure PREP, Computerised Relationship Layout Planning CORELAP Transportation programming can be used to minimize time or costs Time – Dependability 6-Sigma, Inventory management, JIT Implementation Costs Flexibility (i.e. product flexibility) Process layout, choice of labour and machinery People are generally more flexible than machinery (capital) From Snaddon 2009 Cost per mile.

[Audio] Class exercise In the transformation process (e.g. production) what characterises the following types and give an example of each A project A job shop A batch flow A line flow A continuous flow Use Your VAC WORK experience.

[Audio] Planning for Product advantages One method that helps plan for product advantages (quality, speed, dependability and flexibility) is the: Product mix versus the process patterns Variety Volume.

[Audio] Differing product mixes & process patterns Product Mix Process pattern One of a kind Low volumes; many products High volumes; several major products Very high volumes; standard product Challenges for management Very jumbled flow; process segments loosely linked Project Job shop Scheduling; materials handling; shifting bottlenecks Jumbled flow but a dominant flow exists Batch flow Worker; motivation; balance; maintaining enough flexibility Line flow Worker paced Line flow Line flow Machine paced Line flow Capital expenses for big chunk capacity; technological change; materials management; vertical integration Continuous, automated, and rigid flow; process segments tightly linked Continuous flow Challenges for management Bidding; delivery; product design; flexibility Quality (product differentiation); flexibility in output volumes Price From Snaddon 2009.

[Audio] Starting a company As noted previously to start a company one needs --- Capital (usually associated with starting a company) --- Material and labour (usually associated with running the company) In addition we need to decide --- where to locate --- what the complete making process entails --- what tasks employees will undertake.

[Audio] Starting a company As noted previously to start a company one needs --- Capital (usually associated with starting a company) --- Material and labour (usually associated with running the company) In addition we need to decide --- where to locate --- what the complete making process entails --- what tasks employees will undertake Costs Money Do these Cost Money? Question: What factors should one consider when deciding where to locate a manufacturing firm?.

[Audio] Factors to consider when deciding on geographical location include: Transportation Highway facilities labour Skilled labour raw materials Proximity to supplies markets Existing consumer market industrial site Developed industrial park utilities Water supply government attitude Zoning codes tax structure Industrial property tax rates climate Relative humidity community Quality of schools.

[Audio] Layout Layout of the complete making process largely depends upon the mix and volume of products to be made (see previous diagram) Suitable layouts vary from project/job shop to continuous flow --- Start with the process flow chart --- Then configure a suitable layout --- Design individual tasks (for buying, making, and selling – including after-sales services) To design a good layout.

[Audio] Process Flow Chart – Step Ladder Fabrication How can we distribute tasks to employees?.

[Audio] Process Flow Chart The making process may be split into tasks as follows According to the skills --- e.g. operating, inspecting, storing By demand of the process --- e.g. one person does the tasks from start to some mid-point e.g A. Another takes over from there to the end By content of the work --- i.e. give the first person the same work content as the second person.

[Audio] What other design do we need? Then the layout.

[Audio] Workplace design Do workplace design To do this Integrate the capital and labour (i.e. equipment and employees) so that needs are met e.g. --- employee health and safety --- ergonomics --- efficiency --- etc.

[Audio] Completing the designs Note that the elements of location, layout, and individual workplace design must be effective to provide services in transforming resources to goods and services After these designs --- estimate the cost to see if the designs are efficient How to check our designs.

[Audio] More costing Recap Overall costs are divided into --- Total capital required (K) --- Operating costs (L and M) Total capital is comprised of --- fixed capital --- working capital Fixed capital --- is needed to purchase machinery, land, factories, buildings Working capital --- is needed to operate the firm.

[Audio] Fixed capital Fixed capital is analysed by the physical components Estimates of fixed capital vary from inaccurate (but quick and cheap) to accurate (but costly and time consuming) Accuracy depends on information available (not the size of the project assessed).

[Audio] Adjust for Scale & Accuracy. Adjust for Scale & Accuracy.

[Audio] Accuracy of costing Cost Engineers classify accuracy of costing into the following categories Order of magnitude (or ratio) estimate --- based on previous cost data --- low cost of estimate --- accuracy perhaps worse than ±30% Study (or factor) estimate --- based on knowledge of major items of equipment --- low-medium cost of estimate --- accuracy perhaps ±30%.

[Audio] Accuracy of costing Preliminary budget authorisation (or scope estimate) --- based on sufficient data to permit estimating of budget --- medium cost of estimate --- accuracy perhaps ±20% Definite (or project control) estimate --- based on almost complete data, but before complete drawings & specifications --- medium-high cost of estimate --- accuracy perhaps ±10%.

[Audio] Detailed (or contractor’s) estimate --- based on completing engineering drawings, specifications and site survey --- high cost estimate --- perhaps ±5% accuracy For an early estimate, considering cost and accuracy, which one is best to start with? Question.

[Audio] A fixed capital cost estimating sheet Adapted from Snaddon 2009 No. Cost Component Comments 1 Equipment – delivered May be calculated from drawings and bills of quantities. Location, size and number of units of each piece of equipment are determined. Other approaches: • Obtain firm quotation from intended supplier • Refer to historical costs if the same equipment was purchased before • Obtain price from literature 2 Complete installation of equipment Includes instrumentation, piping, electrical installations, buildings including services, yard improvements, and service facilities. Usually estimated as a percentage of equipment cost. 3 Land Should be priced at the opportunity cost, i.e., the current market price. 4 Engineering and construction Includes construction, design and engineering, field office, supervision, insurance, inspection, and general construction overhead. Often estimated as about 15% of total physical cost. 5 Contractor’s fee Paid to contractor as profit. Typically estimated at 5% of total physical cost excluding land. 6 Contingency For unforeseen circumstances. Usually estimated as 15% of total physical cost excluding land. 7 Interest during construction period Covers loans from banks used to finance the project during construction. Typically calculated as a fixed percentage of total costs (e.g., prime interest rate or overdraft rate)..

[Audio] An installation of equipment cost estimating sheet Equipment cost Range of factor Cost Labour 0.05 - 0.20 ---------- Foundations 0.04 - 0.07 ---------- Buildings and structures 0.15 – 0.35 ------- Insulation 0.01 – 0.06 ------- Instrumentation 0.04 – 0.10 -------- Electrical 0.06 – 0.10 ---------- Piping 0.30 – 0.60 --------- Painting 0.05 -------- Miscellaneous (minor equipment & construction cost) ------- Total Installed equipment cost ---------- From Snaddon 2009 5%-20% of equipment cost is labour Substantial item.

[Audio] Working capital Current assets consist mainly of --- Inventory --- Accounts receivable/debtors --- Cash Inventory can be divided into --- Raw materials --- Work in progress (WIP) --- Finished products inventory Working capital = current assets – current liabilities.

[Audio] Working Capital Overall figures of working capital --- may be estimated from ratio analysis and --- depend upon production processes E.g. --- inventory for JIT is low --- but is high for mature processes e.g. making of alcohol Some budgeters (for different reasons) allow 1 month supply of raw materials + 1 month of WIP + 1 month of sales as trade debtors Hence working capital varies greatly.

[Audio] Working capital Overall figures of working capital --- may be estimated from ratio analysis and --- depend upon production processes E.g. --- inventory for JIT is low --- but is high for mature processes e.g. making of alcohol Some budgeters (for different reasons) allow 1 month supply of raw materials + 1 month of WIP + 1 month of sales as trade debtors Hence working capital varies greatly Give some of the reasons.

[Audio] Operating costs Recall Overall costs = total capital costs + operating costs The physical way of producing (buying, making & selling) is the basis of finding the cost of production Labour Materials.

[Audio] Operating costs can be estimated at different accuracies Greater accuracy is required in estimating operating costs as these repeat, than capital costs that occur once The usual rule here is to be as accurate as possible e.g. if there is discount given take this into account.

[Audio] Operating costs Operating costs are often analysed the same way as the income statement --- i.e. consist of cost of sales and other costs Interest costs are excluded at this stage, as they depend on the financing decision Depreciation costs are excluded as they do not involve cash outflows Because it confuses the decision whether or not to invest with how to invest If possible separate the investment and financial decisions.

[Audio] Cost of sales Cost of sales is cost directly involved in producing output i.e. --- Labour --- Maintenance and capital --- Materials (raw & components) --- Utilities --- Operating supplies --- Patents, licenses, royalties --- Laboratory charges Usually determined by zero-base budgeting.

[Audio] Labour This is classified into --- direct labour (those making) --- supervisory labour (foremen, superintendents, etc) --- ancillary labour (storemen, cleaners, loaders, etc) Labour cost is found from task elements that are combined into jobs Labour required depends upon the capital (machinery) used Supervisory labour is sometimes estimated at about 15% of direct labour.