Principles of Effective Product Cost Management

 

The advantages of a structured product cost management (PCM) program are noteworthy; many manufacturers face difficulties to execute these initiatives effectively. In this article, we will discuss key principles to guide and implement an effective PCM program for maximum impact.

In an organization many people and departments impact product cost:

  • From multiple alternatives that meet the functional requirements having different costs, the engineering team decides on a specific design.
  • There are multiple potential costs for manufacturing the design but a sourcing team pays to produce a specific design. Manufacturing costs depend on plant cost structure, capabilities, and process control. Those costs are often negotiable.
  • There are several cost-effective ways to manufacture the same design, a manufacturing team selects one way to produce a specific design and estimates a ballpark cost.

Generally, PCM has been executed by cost engineering experts or by Value Engineering (VE) team members who specialize at reducing cost and have experience in supporting core business functions. These experts have strong manufacturing backgrounds and may be working as a supplier quote estimator as well.  Their domain knowledge builds over time and their expertise is unique, but it is not easy to scale across products in a large organization.

For PCM to be effective, we need systematic activities, processes, and tools throughout the enterprise to guide the above decisions with minimum possible costs. This allows manufacturing organizations to reduce cost at the point of origin and produce the highest impact on product cost reduction.

Core Cost Management Activities

There are many core activities involved in PCM, below are the most effective ones:

  • At the R&D stage, studying the cost tradeoffs of various concept designs.
  • During New Product Introductions(NPI), evaluating multiple design alternatives to reduce cost. 
  • Estimate the cost of proposed solutions to an engineering change order.
  • Use multiple manufacturing and tooling alternatives for evaluating lowest cost such as make vs. buy analysis
  • Generate a detailed “must have cost” to validate supplier quotes and ensure the lowest pricing
  • Analyze entire commodity groups pricing by batch to find cost outliers
  • To identify the highest potential cost reduction in the shortest amount of time, evaluate multiple cost-down ideas on current products in real-time.

Cost Management Processes

The core activities above fit into different processes and functions over a product’s life cycle, including key Cost Control Points during the overall development process. These are measurable, managed checkpoints which indicate where and when people should perform the activities outlined above. Throughout the product development lifecycle, output and results of these activities build on each other.  For instance, during the New Product Introductions (NPI), design review meetings are conducted at regular intervals to make sure the new product meets functional requirements. However, rarely is there a discussion on the financial implications of the design alternatives being evaluated. An effective PCM effort should incorporate compulsory cost evaluation as part of key design review milestones.

Another instance could be when design reaches the release to manufacturing (RTM) milestone. At this point in the process, we need to decide whether to make or buy that product including the key components within it. A company from a cost control point of view at the RTM milestone would quickly calculate the financial impact of both the options, and make an economically-wise decision. This decision would help to create and manage an RFP response from a supplier.

Cost Management Tools

Effective PCM is enabled by placing the proper tools in the hands of the people who impact product cost. These tools help assess true product costs in detail at any stage and encourage people to act on the appropriate changes to decrease costs. For instance:

  • Without depending on specialized knowledge of manufacturing or cost, product cost estimation systems consistently generate and manage accurate estimates.
  • Reporting systems document and track cost management results along with KPI’s over time
  • Analytics systems identify cost outliers and trends by searching large volumes of data
  • In a product’s life cycle, Bill of Materials (BOM) cost tracking systems roll-up costs.

Without these basic activities, processes, and tools, PCM remains as a manual and decentralized function to manufacturing or cost engineering experts. We can perform one or two times per NPI cycle, limiting the chances to identify and operationalize product cost savings. It also leads to an inconsistent method of estimation with static information making it difficult to update, manage and share.

To bring down Cost of Goods Sold (COGS) by percentage points, manufacturers must look to deploy PCM in the development process, across various levels and all departments. Each group must identify its key Cost Control Points and define the activities, and processes required to reduce costs. These groups also need the right tools to analyze cost trade-offs quickly and easily each time we take a decision. The specific method for effective PCM will vary for each group, but the effort to meet their specific requirements will provide a high return on investment (ROI).

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