The proportion of a worker’s income or wage that goes toward indirect production expenses is known as “indirect labor cost.”
Social security, fringe benefits, and workers’ comp insurance are all included in this category of job expenses.
It also incorporates workers’ time spent on manufacturing-related but non-product-creating tasks.
Indirect labor costs may include, for instance, the time invested in quality assurance checks or the cleaning of machinery.
For What Reason Do We Need to Know This?
When determining how many workers are required for a given project, we should take the full cost of employment into account.
Take the case of an employee who not only cleans machines but also produces finished goods and does quality control inspections.
This worker would spend 24 hours per week on indirect labor if she worked eight hours per day at each of her three jobs.
The time spent on such things grows in direct proportion to the amount of effort put into increasing production.
Higher pay or salaries, a larger workforce, or worse productivity are all ways in which this could drive up expenses.
When manufacturing costs exceed selling prices, the end product loses market competitiveness.
Indirect Labor Expenses and Their Variations
Indirect labor costs can be either constant or variable.
Labor Expenses That Are Indirect But Constantly Fixed
Indirect labor costs that are fixed do not fluctuate with changes in output.
Indirect labor costs include things like a company’s rent, utilities, and property taxes that don’t alter based on how many people are employed there.
Other examples include administrative salaries, equipment depreciation, and insurance.
Between twenty and thirty percent of direct labor expenditures are eaten up by these indirect costs.
Indirect labor costs that can fluctuate
Indirect labor costs that fluctuate according to the number of workers in a factory are known as variable indirect labor costs.
Indirect labor costs include things like the price of raw materials, quality control inspections, utility usage, and workman’s compensation insurance, all of which rise in proportion to the number of employees.
Shipping prices for raw supplies and packaging both come to mind.
Between eighty percent and twenty percent of direct labor costs are often made up of these indirect expenditures.
How Do We Figure Out How Much Indirect Labor Will Cost?
Indirect labor cost is often calculated using three numbers:
Total wages for all workers directly involved in making a product or providing a service.
The sum of time spent by all employees on non-direct labor activities such as quality control inspections, machine cleaning, and defect inspections.
The percentage of a worker’s income or wage that is allocated to indirect labor, as defined by a predetermined indirect labor rate.
If a corporation spends $500,000 per month on direct labor costs and its employees spend 5,000 hours per month on indirect labor activities, then the company incurs an indirect labor cost of $100,000 per month, or 20% of the total direct labor cost.
What Can We Do with This Formula for Determining Indirect Labor Expenses?
An indirect labor rate is initially calculated by dividing direct labor costs by that percentage.
If you need specific numbers, your company’s accountant should have them.
After arriving at the indirect labor rate, it can be used to any necessary adjustments to direct labor expenses in order to get at the indirect labor cost.
This will make it simpler for businesses to estimate their total indirect labor costs.
Understanding Indirect Labor Costs and Why They Matter to Our Company
Having this information is crucial since it allows us to plan for future costs with confidence.
The company will have a better idea of how much money it needs to set aside for these expenses, reducing the likelihood that its bottom line may take a hit because of unexpectedly large indirect labor expenditures.
It is recommended that a business first determine its own indirect labor cost.
Adding 10% to the direct labor hours and then multiplying by the indirect labor rate yields the total cost of indirect labor.
This will help a business determine where price cuts can be made without compromising profit margins.
Methods for Cutting Back on Indirect Labor Expenses
Reduce or get rid of inefficient steps in the manufacturing and distribution procedures 1. This entails using Kanban pull systems, reducing the quantity of work in progress, and embracing single-piece flow, all of which are examples of lean methods.
Identify under- or overvalued assets by employing activity-based costing and other lean accounting principles
Third, implement statistical process control (SPC) and other lean six sigma techniques to guarantee high-quality operations.
Employees should be taught lean methods and principles.
Fifth, make the argument for lean-to in the workplace.
Sixth, keep tabs on your progress toward your cost-cutting and improvement goals.
Measure success in comparison to that of similar businesses.
Eight, think about contracting out jobs that don’t directly benefit your company or your clients.
Indirect labor cost is the sum of all salaries and wages paid to workers whose efforts are not directly involved in making the final product. The burden of indirect labor costs on a factory might be rather high.