Cost Catch-22

What is it, unpredictability and design control

Joseph Heller’s Yossarian in Catch 22 made money selling eggs at 2¢ that he bought for 3¢. The math simply does not make sense; the unintended lesson is “What is cost?” Analogous situations arise in product development: a component of a certain design, material and process that costs less than another often ends up costing more. How? It is not obvious and often mistakes are made engendering excessive expense that with knowledge need not be entertained.

There are three main causes of the catch-22 false cost increase:

  1. Process disruptors increasing total loaded accrued costs;
  2. Procurement practices;
  3. The fallacy of preformed near net shape material and the cost of fallout.

Process Disruptors Increasing Total Loaded Accrued Costs

Total loaded cost accruals are the first culprit important to understand and to eliminate as they greatly exacerbate and explain the other two issues.

All companies are process centric: they follow a routine process. Some are codified into registered business models such as the common International Organization for Standards. Others are routine: material comes in door A, is stored at location B, parts go from machine to finishing to inspection to shipping, etc. Manufacturing company personnel and machinery repeatedly follow these routine processes automatically on every job and what is most important, predictably, to be both competitive and profitable.

All of these processes have an associated cost, often treated as ‘overhead’ and not obviously quantitatively itemized to the customer: a tariff, the cost of doing business. These hidden overhead costs have two important issues:

  • If disrupted they grow tremendously;
  • They must be included in all components’ real end cost calculation.

Process disruption caused cost increase is the most important and least understood, often unknown issue. Disruption to the company’s routine processes requires additional personnel and machinery time to adapt the disruptor through the routine. Sometimes the disruptor requires actual unplanned cash as well as ongoing expenses described in the third issue below.

Parts Procurement

The second issue is insidious, the hardest to identify, control and eliminate as a cost variable. The paradigm “90% of cost is decided at the design stage” is false in actual practice. Corporate parts procurement practice is the single greatest variable in ongoing cost accrual, always unaccounted for at the design stage and inherently unpredictable.

Unfortunately, procurement practices usually are controlled by somewhat mutually exclusive corporate policies:  ordering to order, maximum quarterly orders (or other time period based), vendor swapping and favoured vendor status, order changing and percentage vendor loading for example cause unpredictable price fluctuations, unfair extra-part cost loading and of course increased costs.

It is common to enter close relationships with your vendors, requiring ‘value added’ services and innovative practices from them. But they have their own risk management concerns and require inputs to respond. Often these inputs are denied, or worse, agreed to then not acted upon. A common example is commitment to order: often a manufacturing vendor will offer cost reductions on components if they invest in tooling or automation, but companies who instigate order to order or maximum quarterly ordering, for example, will not offer the information required for the manufacturing vendor to respond and realize the cost reductions offered!

A common sense practice of course is to intimately discuss purchasing strategy with your manufacturing vendor and then maintain the negotiated procurement agreement. It is surprising how many companies do not do the latter.

New projects’ negotiated procurement agreement should be established and communicated to the product development team. Appropriately, they can then solicit applicable cost requests on new designed components instead of the all too familiar guesstimates of decade based quantities: 10, 100, 1,000, or similar.

Product development teams’ cost calculations may seem complete and accurate to themselves, project management, even to all involved, but later on as the product’s standard cost calculations show otherwise, a major project problem arises.

The Fallacy of Preformed Near Net Shape Raw Material and the Cost of Fallout

In theory, design decisions determine cost and common design mistakes have tremendous, hidden and unpredictable cost issues. The fallacy of preformed near net shape raw material, using prototype or one-off manufacturing materials on a production basis, is a design issue with often completely misunderstood or unknown cost implications.

A common scenario is an early design or prototype stage cost calculation comparing preformed near net shape raw material components to custom fabricated components. The preformed near net shape raw material components are much less expensive and consequently the argument is made to proceed.

As presented the scenario seems intelligent, well thought out and innovative! The conclusion is wrong, the opposite occurs and provides our catch 22 of less expensive components costing more than otherwise more expensive components for the reasons introduced in the first two issues above. In detail the following occurs to engender a catch 22:

  1. The preformed near net shape raw material cost calculation is performed by the designer with material supplier information who may offer customization services.
  1. Custom fabrication costs are requested from an approved vendor.
  1. Procurement practice mandates acquiring components from approved vendors. While this general statement may not be applicable, other specific corporate practices may occur such as business case requirement to qualify a new vendor, or swapping to the approved vendor later in production.
  1. The approved vendor does not have the machinery, personnel or experience to work with the preformed near net shape raw material which causes a disruption to its routine processes.
  1. The approved vendor’s new total loaded accrued cost to adapt the preformed near net shape raw material into its routine processes now become more than calculated at step 1. The approved vendor’s inexperience as well as forced adoption of prototype intent materials to improper production machinery and processes results in fallout: scrapped poor quality components.  Again, good components cost increases as they bear the scrapped parts’ cost.

Critical errors at step 1 unfortunately provide data for management decisions: the decisions are sound, the data provided are flawed.

The designer or others, enamoured of the preformed near net shape raw material (which is ideal for prototype construction), consult the wrong expert for cost data, and may even request costs on a prototype design purposely suited for the near net shape raw material, substantially different than the production caliber design. The result, comparing prototype design process to production design process manufacturing, is a false comparison with consequent false data.

Step 3, procurement practices, confounds the situation, again unfortunately for sound reasons.

The approved vendor is now required to purchase the preformed near net shape raw material for your single project. This disruption to its normal and predictable multi-project raw material procurement process requires unplanned cash outlay as well as incurred costs of continued storage of the unique, single project material.

Other procurement practices of ordering to order or maximum quarterly orders, for example as discussed in the previous section, compound the approved vendor’s planned material usage and consequent ongoing unpredictable procurement cost control due to its single project uniqueness.

Additional problems of assigning capable production personnel, shop floor area for unique material handling, machinery setup different than normal and its consequent affect to unplanned machine maintenance, possibility of error throughout the process due to new handling requirements different than routine, and truly this is a situation to avoid for all parties involved, and which also will probably result in production delivery delays and their consequent shared problems.

Step 5 produces the catch 22 of less expensive components costing more. Unfortunately it is too late if the design and procurement process has advanced to this stage.  The project will suffer ongoing unpredictable cost issues and production delays. A worst case scenario is that they may be unsolvable due to design commitment and consequent cascading effect of changes should they be implemented to alleviate the variable cost problem.

Although the issue of fallout: scrapped poor quality components, has only been discussed in relation to improper use of preformed near net shape raw material, fallout can happen due to other design decisions. Many product development teams include manufacturing engineering and assembly personnel to offer their expertise to such decisions. But all designers should be aware that while their public advise is applicable to in-house assembly and processing issues, your manufacturing vendor’s have the same issues, and their advice may not be public. And of course, this results in additional, hidden costs.