The best way to reduce manufacturing costs is to target the three areas in which costs generally fall: direct labour, materials, and manufacturing overheads. In this article we’ll look at each of those areas in detail and suggest ways in which business owners and managers can reduce manufacturing costs – without lowering their output or overall quality – thereby boosting their overall manufacturing productivity.
Understanding manufacturing costs
Manufacturing costs are the sum of costs of all resources used in the process of manufacturing a product. They include direct labour costs, material costs, and manufacturing overheads. Let’s take a look at each type below – and how to reduce manufacturing costs by addressing each area.
How to reduce manufacturing costs: direct labour
Direct labour costs are largely comprised of wage spend that can be specifically and consistently assigned to the manufacturing process. Aside from regular wages, it can also include:
- After-hours pay
- Time in lieu
- Health insurance
- Profit share contributions
- Matching payments to retirement schemes
- Leave entitlements
- Travel expenses
- Redundancy payouts
How to reduce direct labour costs
1. Review staff wages and hours
It may be time to review staff wages — do you need all staff currently on the books? Can you retrain any staff to a more value-adding role? A lot of money goes into hiring and keeping staff so make sure it’s money well spent.
Generally, staff income goes up over time. Before confirming any pay raises, ensure you know how much other companies may be paying for similar roles, and delay any pay raises until the right time where appropriate. Of course, it’s important to ensure you communicate clearly and transparently with any affected staff and let them know if there are things they can do, such as up-skilling.
A related cost that comes with staff is the rate of staff turnover. If you have high levels of staff turnover, this can incur huge costs to the business, due to the constant need to go through the recruitment process.
Employing new staff means advertising, which is expensive, and if necessary, paying recruitment agencies to help with the process.
Work hard on reducing staff turnover to avoid this, by identifying the things that are making people leave. Consult with your employees to get their perspective – for example, is it the workplace culture? Is it the pay? Are specific roles becoming a ‘revolving door’ and if so, why? Asking these questions is key to fixing issues with staff turnover.
On a related note, you may also want to consider whether all staff need to be full-time, or if some roles can be reduced to part-time. This will also reduce costs and ensure cash can be used elsewhere.
2. Avoid over-scheduling staff
One mistake many manufacturing business owners make is scheduling staff for shifts unnecessarily. Often managers will make a ‘best guess’ on staff numbers needed over a given period. This method can be hit or miss, and often-times results in over-scheduling. This, of course, increases costs as employers must pay wages for staff who aren’t needed.
You can avoid this by using scheduling software to automate the process based on demand in previous weeks accurately.
3. Optimise processes with the right tools
Many small businesses manage their staff, resources and time the old way — with a pen and paper, and perhaps the odd Excel sheet. While this can be manageable while a business is in its infancy, it is not sustainable with any form of growth.
Instead, we recommend using SaaS software for inventory management, accounting, payroll, point of sale and more. The right tools will help you reduce unnecessary costs that come with overstaffing issues, excessive stock orders and more.
Controlling direct material costs is key to reducing manufacturing costs overall
How to reduce manufacturing costs: material costs
Material costs are the costs associated with direct materials which can be easily tied to production. Material costs range from everything from raw materials, fuel and energy costs to packaging and spare parts.
These typically account for a large proportion of total costs, making it a major area of concern for many manufacturing businesses.
How can manufacturers reduce material costs?
Reducing manufacturing costs doesn’t just come down to staff expenditure, and businesses shouldn’t limit themselves to this approach alone. Here are four strategies to help you reduce materials costs.
4. Negotiate with suppliers
Negotiating prices isn’t a skill that necessarily comes naturally. We recommend business owners think carefully about how they approach suppliers and ensure they’re being strategic when it comes to agreeing on costs.
The first step in this process is to build genuine relationships with your suppliers. Once you’ve built a rapport, negotiating money is less uncomfortable.
5. Buy materials only as you need them
Many small business owners make the mistake of ordering excessive inventory.
Excess stock reduces cash flow and your capacity to rely on back up funds for the company – so business managers need to be thorough when it comes to ordering stock. The best practice is to use inventory software which can accurately predict future demand based on previous sales trends, rather than simply hazarding a guess. Alternatively, consider whether a Just-In-TIme approach – where you order stock responsively as you make sales – is appropriate for your business.
6. Substitute expensive materials for more affordable ones
Don’t make the mistake of relying on the same raw materials for your products throughout the business’ life cycle. As a business grows, managers need to consider alternative raw materials which produce the same or similar end product, but which are more economically sustainable. Consider, for instance, ways you may be able to recycle materials into new products or use substitute materials which are less expensive. These small changes can drastically help you reduce manufacturing costs.
7. Review and redesign products or processes
Sometimes products and manufacturing processes can become inefficient. It’s worth regularly reviewing your products and processes to assess their value, and how much it’s costing you. Then, you can redesign the product or process to maximise efficiency.
For example, a coffee roaster finds that she’s spending more on materials than the industry benchmark and reviews the products. Among her products, she finds that one of them uses more expensive packaging materials than the others. She assesses the packaging material and finds that, in comparison to the other products, the function is the same and it doesn’t add any additional value. Yet, it is adding 15% more to the total material costs. She swaps this expensive packaging material for a standardised packaging material that she uses across all her products and saves more than she expected as she was able to buy the packaging materials in bulk.
Reducing overheads is the final part of the puzzle
How to reduce manufacturing costs: manufacturing overhead
Overhead costs include maintenance of the manufacturing site, electricity, gas, supplies for staff like uniforms, printing, vehicles and other related costs.
How can manufacturers reduce manufacturing costs in overheads?
Reducing manufacturing overhead can be key to reducing manufacturing costs overall, and can help free up cash for other important areas of the business.
8. Review rent
Rent is a cost that many new business owners tend to neglect — it’s a necessary expenditure, so it may seem like there’s no way to reduce costs in this area. However, all manufacturing businesses should be regularly reviewing their rent costs, whether they have multiple warehouses and sites, or only one or two.
Consider whether the rent you’re paying for these sites is worth it. That is, are you making enough profit from your products in comparison with your rental expenditure? If not, you may need to consider renting a smaller site or reducing the number of sites you’re renting.
9. Consider how you’re spending the budget for maintenance
In a similar way, maintenance costs are very often neglected by business owners as they’re seen as a “necessary evil”. , Managers should regularly review maintenance costs to ensure they’re not excessive or unnecessary.
10. Review miscellaneous office or warehouse costs
The final costs to consider in manufacturing businesses are things such as office supplies, staff supplies, fuel, staff vehicles, uniforms, security keys, cleaning services for staff rooms and other miscellaneous costs. As with all the costs discussed above, small things like this add up, and there may be room for improvement. Regularly review these smaller costs and ensure that you’re not overspending on unnecessary things, or paying more than you need to. For example, you could make a switch to a different brand of office stationery or coffee. It wouldn’t be too much of a change to daily life, but it can significantly impact your total costs.
Article by Melanie Chan in collaboration with our team of Unleashed Software inventory and business specialists. Melanie has been writing about inventory management for the past three years. When not writing about inventory management, you can find her eating her way through Auckland.