True Manufacturing Cost

Common Problems — Why Factories Cannot Answer Cost Questions

From real experience, when you ask a factory "What is the cost of this product?" the typical answers are:

• "We know the raw material purchase price, but we don't know how to allocate labor and overhead costs."
• "We know the total monthly cost, but we cannot break it down by product."
• "We use Periodic accounting — we only count stock at month-end, and have no idea of the inventory level during the month."
• "The cost we use for pricing is an estimate from when the company was founded — it has never been updated."

The root cause comes from three things that have never been done:

What Has Never Been Done	Impact
Never recorded inventory using Perpetual method	No visibility into current stock levels or remaining cost — only known at month-end physical count
Never established Standard Cost	No standard cost benchmark for comparison — unable to identify abnormally expensive production lots
Never performed Cost Allocation	Labor, electricity, depreciation, and maintenance costs — no method to allocate them to individual products

Understanding the Basics — Three Pillars of True Cost Calculation

Pillar 1: Perpetual Inventory (Continuous Inventory Accounting)

Instead of counting stock at month-end and then calculating cost, a Perpetual system records every inventory movement in real time:

• Receive raw materials → Record cost into inventory immediately
• Issue raw materials to production → Deduct cost from inventory immediately
• Production complete → Receive finished goods into inventory with production cost
• Sell goods → Record cost of goods sold (COGS) immediately

Pillar 2: Standard Cost

Standard Cost is the cost that "should be" if everything goes according to plan — used as a benchmark for comparison against actual cost.

The Standard Cost of one unit of finished goods consists of:

Component	Source	Example
Direct Material	From BOM (Bill of Materials) x standard price	Steel 2 kg x 50 THB = 100 THB
Direct Labor	From Routing x standard labor rate	Cutting 0.5 hr x 200 THB/hr = 100 THB
Manufacturing Overhead	Allocated using a predetermined basis (machine hours, labor hours, etc.)	0.5 hr x 150 THB/hr = 75 THB

Therefore, Standard Cost = 100 + 100 + 75 = 275 THB/unit

When the actual production cost comes out at 290 THB, a variance of 15 THB arises, which must be analyzed further — did raw material prices increase? Was production time longer than standard? Or was overhead abnormally high?

Pillar 3: Cost Allocation

This is the part that most factories "skip" — because it is the most difficult.

Cost Allocation is the process of distributing expenses that cannot be directly attributed to a specific product across individual product costs. Examples of expenses that need to be allocated:

• Factory electricity — producing 5 products in the same factory, how do you allocate to each?
• Machine depreciation — one machine produces multiple products, how do you calculate?
• Factory supervisor salary — supervises all lines, what basis for allocation?
• Maintenance, cleaning, and insurance costs

Common allocation bases:

Allocation Base	Best Suited For
Machine Hours	Capital-intensive factories
Labor Hours	Labor-intensive factories
Direct Material Cost	When raw materials constitute the majority of total cost
Production Volume (Units)	When all products consume similar resources
Activity-Based Costing (ABC)	When high accuracy is required — allocates based on actual activities

Real Example — How a Factory That Has Never Done This Should Start

Suppose a metal parts factory produces 3 products (A, B, C) in the same facility:

Step 1: Create a Clear BOM (Bill of Materials)

Define what raw materials each product uses and how much:

Product	Steel/Unit	Qty Produced	Total Steel	Material Cost (x50 THB)
A	5 kg	500	2,500 kg	125,000
B	10 kg	300	3,000 kg	150,000
C	15 kg	200	3,000 kg	150,000
Total			8,500 kg	425,000

(Remaining steel 1,500 kg in stock = 75,000 THB)

Step 2: Define Routing — Set Production Time

Product	Labor Hr/Unit	Qty Produced	Total Labor Hr	Labor Cost (x200 THB)
A	1 hr	500	500 hr	100,000
B	2 hr	300	600 hr	120,000
C	2 hr	200	400 hr	80,000
Total			1,500 hr	300,000

Step 3: Cost Allocation — Distribute Overhead

Total overhead of 250,000 THB, assuming labor hours as the allocation base:

Overhead rate = 250,000 / 1,500 hr = 166.67 THB/hr

Product	Total Labor Hr	Allocated Overhead
A	500 hr	83,333 THB
B	600 hr	100,000 THB
C	400 hr	66,667 THB

Step 4: Combine Actual Cost — Now You Have the Answer!

Product	Material	Labor	Overhead	Total Cost	Quantity	Cost/Unit
A	125,000	100,000	83,333	308,333	500	616.67
B	150,000	120,000	100,000	370,000	300	1,233.33
C	150,000	80,000	66,667	296,667	200	1,483.33

Now you can answer: "Product A's true cost is 616.67 THB/unit, B = 1,233.33 THB, C = 1,483.33 THB." If you sell A at 700 THB, you earn a gross margin of 83 THB (13.5%). But if you sell C at 1,400 THB, you are losing 83 THB per unit without even knowing it!

Why Use ERP — Can You Do This in Excel?

The example above looks simple because there are only 3 products — but in a real factory:

• 50 to 500 product lines, each with a BOM containing 5 to 20 raw materials
• Multiple work centers, each with a different overhead rate
• Raw material prices change with every purchase order
• Work-in-Process (WIP) that must also be calculated
• Scrap and waste that must be included in cost

Excel can do it — but it will be too slow, error-prone, impossible to audit, and dependent on a single person who maintains the spreadsheet.

Saeree ERP and Manufacturing Cost Calculation

Saeree ERP provides comprehensive modules for end-to-end manufacturing cost calculation:

Requirement	How Saeree ERP Handles It
Perpetual Inventory	Every stock receipt and issue is automatically posted to the ledger in real time
BOM & Routing	Define production formulas and process steps across multiple levels (Multi-level BOM)
Standard Cost	Set Standard Cost for Material, Labor, and Overhead with automatic Roll-up
Cost Allocation	Allocate overhead using predefined bases with automatic period-end closing
Variance Analysis	Standard vs Actual comparison reports broken down by Material, Labor, and Overhead Variance
WIP Tracking	Track work-in-process cost for every work order at every stage

True cost is not found through rough "estimates" or broad "averages" — it must be built from actual data at every stage, from raw material procurement through production to finished goods. An ERP system is the tool that automates and makes this entire process auditable.

— Saeree ERP Team

Summary — Steps for Factories That Have Never Done This

1. Create BOM — Define clear production formulas specifying what materials each product uses and how much
2. Create Routing — Define production steps, time required, and which work center is used
3. Switch to Perpetual — Every receipt and issue must be recorded in the system, not just counted at month-end
4. Set Standard Cost — Based on actual data as a foundation, then use it as a benchmark for comparison
5. Define Cost Allocation criteria — Choose an allocation base suited to your factory and apply it consistently
6. Perform Period-end Closing every month — Close costs, compare Standard vs Actual, and analyze variances

If your factory is struggling with cost issues and cannot tell which products are profitable and which are not, you can schedule a demo or contact our consulting team to assess your organization's readiness.