Who Will Absorb The Burden?

Dec 15, 2015

Last week I visited a client to complete an operations review. It’s my job to interview employees and discuss the challenges they face with regard to processes, personnel, or leadership issues, etc. I then recommend improvements to management based on the information received. During the process, I also gather step-by-step information about how specific tasks are executed. I then create a standard manual which ultimately provides anyone directions on how to do any given job. The goal is to increase efficiencies, increase morale, and more often than not, increase profitability.

However, during my visit, several costing issues became apparent, which I found most interesting. This particular client essentially provides a service of labor in repairing machinery. They do sell some products, but a significant portion of their business is service labor. Management determined how many billable hours these laborers must achieve in order to absorb the calculated burden rate. I am currently reviewing how the burden rate was initially calculated, but for illustrative purposes, let’s assume it was reasonable. In order to cover the burden rate, these laborers theoretically need to have 1,000 billable hours a month. The business charges $95 an hour for their labor. However, if the laborers are unable to meet 1,000 hours, their labor charge per hour the following month will increase. For example, assuming the same goal presented above of $95,000 (95*1,000), if the laborer only receives 800 hours of billable work, their rate must increase to $118.75 (95,000/800). I can understand the need to increase profits to cover costs, but I hope you can see the issues this ideology would create.

Manufacturing39For one, sales representatives are unhappy as their quotes change regularly. One day they may quote their customer $95 per labor hour, but the very next day it could increase to $118.75 as seen in our example above. A customer could have the same service done in a matter of a month it could be two extremely different prices. You can see the issue this creates and why they are experiencing a loss of customers.

Another significant issue is how such effects morale. The laborers can only do as much work as the sales representatives generate. If the labor hours are not available, how can the laborers be at fault? As a result, there is pressure from both sides to perform which has negatively affected morale as a whole.

There are many suggestions I can offer from my operations review. However from a costing standpoint, I will require additional information. Nevertheless, have you ever experienced anything like this or ever attempted to implement such a policy?

Categories: Cost Accounting