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August 22, 1998

3 Min Read
Using value-added sales to unmask true costs

Paul Crezee, the controller at S&W Plastics in Eden Prairie, MN, shares how his company uses value-added sales as a tool to determine true costs.

A key function of business analysis is to determine which products are profitable and which are not, and thereby which customers are likewise. A profitable customer may have loss leaders, a whole segment of products across all customers may be losers, or all of a particular customer's line may be unprofitable. The causes of the losses can be varied, and you must pin them down so you are seeking to solve the right issues. To determine profit or loss you need correct costs.

Value-added sales (VAS) can be a very helpful tool in getting you to the right area to analyze. Consider the following. You are trying to sort out which of your customers makes the most use of your resources (labor and overhead) and thus provides you with greatest cost. Your cost accounting system provides the total sales data by customer, shown in Table I.

Sales (in thousands)

Customer

Johnson Widget

Acme Plastics

Wilson Skates

Plasolutions

Plastype

W.E. Jackson Co.

Mills & Mills

At first glance, the relationships for 1997 are about the same as 1996 - with a small change between the third and fourth companies, as ranked by sales. One company has a decline in sales and one company has a really large increase. In addition, two companies appear to do much more in sales than the others.

A further look at your records reveals the material component of your customers' sales, all of which has been properly included in your pricing as a cost pass through. This gives the value-added sales ranking shown in Table II, in 1996 sales order.

Customer

1996
VAS

1997
VAS

% increase

Material %
1996

Material %
1997

Johnson Widget

1200

11260

5

40

40

Wilson Skates

700

720

2.9

30

20

Plastype

640

680

6.3

20

20

Plasolutions

630

700

11.1

30

30

Mills & Mills

616

704

14.3

12

12

Acme Plastics

600

570

-5

60

70

W.E. Jackson Co.

600

638

6.3

25

25

Some very interesting differences start to appear. The #2 company in terms of using your resources is Wilson Skates and it has an increase in sales, not a decrease. The #2 total sales company (Acme Plastics) is now #6 and has a decrease in sales. And while #1 is still clearly first, all of the others are much closer in volume. In the adjustment for material, all of the companies with unchanged material percents from 1996 to 1997 have the same sales increase percentage in both tables.

Material percents can change due to supplier costs, cavity weight, substitution, and part modification, to name a few reasons. You need to be alert to causes and regenerate quotes to capture appropriate ups and downs in material costs. If material percents are climbing for these or other reasons and you are not capturing this factor in pricing, it is coming right out of profit!

Certainly you must also evaluate your cost of processing material, such as receiving, moving, automation, your scrap rates, etc., in evaluating a customer's profitability. If material percents are rising for these reasons, you need to get control of your operations. But in the VAS approach, material doesn't get confused with the issues of labor and overhead, the key press rate items.

The VAS ranking is also helpful in determining if there are any sales levels that are so low that when you consider the number of orders it takes to get there, it is not efficient or profitable. Two customers doing the same dollar VAS volume of business with one placing four times the number of orders may have vastly different costs of handling, scheduling, setups, shipping/receiving, accounting, and other resource use.

In the end, when you are looking at the components of VAS to determine costs, you are looking at the details that make up your press rates - the key cost item for custom injection molders.

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