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A new overhead estimation methodology: A case study in an electrical engineering company

Abstract Manufacturing cost is the largest element of overall product cost. This element is made up of several subelements: material costs, direct labour, and overheads. A good cost control system requires a better understanding of these individual subelements and their contribution to the total manufacturing cost. The aim of the current study is to analyse the existing manufacturing cost estimation methodology and to ascertain the contribution of the three cost subelements to the overall manufacturing cost in an electrical engineering company. The study identified a need to implement an improved overhead estimation methodology based on dividing manufacturing overheads into time- and material-related costs. A new mathematical model for estimating overhead for an individual product is, therefore, suggested that allows the apportionment of total overheads based on both the product lead times and material quantities. The new model's effects on the overall expected manufacturing costs are followed up retrospectively for a four-year period. The expected manufacturing costs obtained using the existing methodology and the proposed one are compared against the actual manufacturing costs. The proposed methodology is found to be superior to the existing one, as overheads are more accurately estimated. The study also reveals breakdown statistics for the three major elements of manufacturing cost.