Key Principles of Effective Product Cost Management
The benefits of a systematic product cost management (PCM) program are significant, yet many manufacturers struggle to implement these initiatives effectively. This article discusses some key principles to guide and execute an effective PCM program for maximum impact.
Many people and departments within an organization impact product cost:
- An engineering team decides on a specific design, but there are multiple alternatives that meet the same form, fit, and functional requirements. Each dictates a different cost.
- A sourcing team pays to produce a specific design, but there are multiple potential costs for manufacturing the design. Manufacturing costs are often negotiable and depend on plant cost structure, capabilities, and process control.
- A manufacturing team selects one way to produce a specific design and estimates a ballpark cost, but there may be several more cost-effective ways to manufacture the same design.
Traditionally, PCM has been performed by cost engineering experts, or by Value Analysis/Value Engineering (VAVE) team members who specialize in cost reduction and/or support core business functions. These resources typically have strong manufacturing backgrounds and may have worked as a supplier quote estimator. Their expertise is unique and their domain knowledge builds over time, but it is extremely difficult to duplicate and scale across products in a large organization.
Effective PCM requires a set of systematic activities, processes, and tools for use throughout the enterprise to guide the above decisions to the lowest possible costs. This enables manufacturing organizations to attack cost at the point of origin and yield the greatest impact on product cost reduction.
Core Cost Management Activities
There are a number of core activities involved in PCM. Some of the most effective include:
- Studying the cost tradeoffs of different concept designs in the R&D stage
- Evaluating multiple design alternatives for lowest cost during NPI
- Evaluating the cost of proposed solutions to an engineering change order
- Evaluating multiple manufacturing and tooling alternatives for lowest cost, including make vs. buy analysis
- Generating a detailed "should cost" to validate supplier quotes and ensure lowest pricing
- Batch analyzing current prices of entire commodity groups to find over-cost outliers
- Evaluating multiple cost-down ideas on current products in real-time to identify the highest potential reduction in the shortest amount of time
Cost Management Processes
The core activities above fit into various functions and processes over a product's life cycle and include key Cost Control Points during the overall development process. These are measurable, managed checkpoints that dictate where and when people should perform the activities outlined above. The output and results of these activities build on each other throughout the product development lifecycle. For example, during the introduction of a new product, there are typically design review meetings at regular intervals to ensure the new product is meeting form, fit, and functional requirements. However, rarely is there a conversation about the financial implications of the design alternatives being evaluated. An effective PCM effort should include mandatory cost evaluation as part of key design review milestones.
Another example would be as a design reaches the release to manufacturing (RTM) milestone. At this point in the process, there is often a decision to make or buy that product, or key components within it. A company with a cost control point at that RTM milestone would quickly calculate the financial impact of both options, and make an economically-wise decision in a fraction of the time that it would take to create and manage an RFP response from a supplier.
Cost Management Tools
Effective PCM is also enabled by putting the proper tools in the hands of anyone that impacts product cost. These tools help assess true product costs at a detailed level at any stage and enable people to act on the appropriate opportunities to reduce costs. For example:
- Product cost estimation systems that can quickly and consistently generate and manage accurate estimates without requiring specialized manufacturing or cost knowledge
- Reporting systems for documenting and tracking cost management results and KPI's over time
- Analytics systems to search large volumes of data and identify cost outliers and trends
- BOM cost tracking systems to roll-up costs at any point in a product's life cycle
Without these core activities, processes and tools, PCM remains a highly manual and decentralized function -- of value only to manufacturing or cost engineering experts. It can only be performed one or two times per NPI cycle, severely limiting the windows of opportunity to identify and operationalize product cost savings. It also leads to inconsistent estimation methods with static information that is difficult to update, manage and share.
To drive down COGS by entire percentage points, manufacturers must look to deploy PCM further upstream in the development process and across all departments and levels. Each group must identify its key Cost Control Points and define the activities and processes needed to reduce costs. These groups also need the right tools to analyze cost trade-offs quickly and easily each time they make a decision. The specific recipes for effective PCM will vary for each group, but effort to meet their specific requirements will provide a very high return on investment.
John Busa is the Vice President of Professional Services at aPriori, a provider of product cost management software solutions for discrete manufacturers.
