For most businesses, Material Costs represent a significant part of their Cost of Goods Sold. If operations management isn’t continuously working to reduce this cost as a percent of Net Sales that business will make less money 100% of the time.
Overview
Material Costs encompass any purchased materials used to make something else or which you resell with a markup. Material costs include but are not limited to, raw and processed materials, components, parts, assemblies, and sub-assemblies that are consumed directly in the production of a product or the delivery of a service.
“Net” Material Costs represent the total material cost after returns, and vendor discounts are deducted from the material purchases. Any material cost cash paid or payable offsets must be accounted for in your material cost subaccounts to give you the most accurate picture of your actual material costs. This is how you know if this cost is increasing or decreasing as a percent of Net Sales.
For example, consider the impact on your profits and cash flow by reducing this cost by at least 2%? How much better would your cash flow be if you reduced Material Costs by 5%?
You will never achieve material cost reductions like this if you don’t make a specific person directly accountable for generating your targeted material cost savings. This is why most businesses never realize reductions in material costs because no one is assigned accountability for realizing targeted cost reductions.