Pay BillManufacturers expect sales and production to increase this year, but costs are still climbing. With all of the upheaval in today’s economic landscape, labor, materials, and energy are all more expensive, making the broader economy hard to predict, which puts more pressure on margins. One area in which companies can respond is manufacturing overhead, where operational decisions can make a positive impact on the bottom-line. To help clients, prospects, and others, BMSS Advisors & CPAs has provided a summary of the key details below.
What Is Manufacturing Overhead?
Manufacturing overhead is a key part of cost control, and includes all of the indirect costs needed to operate a production facility. These costs support the manufacturing of goods but cannot be allocated directly to a specific unit of product.
Common examples include indirect labor such as supervisors and maintenance staff, equipment depreciation and repairs, utilities, facility costs, production planning, and administrative support. Although not tied to a single job, these costs are built into every unit produced and become part of overall unit cost.
How Overhead Affects Unit Cost
Overhead affects unit cost in two primary ways:
- Fixed costs such as depreciation or rent stay the same regardless of output.
- Variable costs increase as production activity increases.
When volume decreases, fixed overhead is spread across fewer units, which increases cost per unit even if total overhead has not changed. Variable overhead is directly related to activity levels and is usually managed through efficiency and waste control.
For manufacturers, the opportunity is to identify which overhead categories most influence unit cost and focus attention there. Begin by measuring overhead by unit, machine hour, and other major categories, and then track any trends as adjustments are made.
Key Drivers of Manufacturing Overhead
The overhead categories with the greatest impact on unit cost often have both fixed and variable components. They include a fixed base, but costs rise with inefficiency or downtime. Because they often respond to even small operational changes, they are often the first line of defense.
Indirect Operations — Indirect operations include supervision, maintenance, quality control, warehouse support, IT, and administrative functions, among others. In many facilities, these indirect operations make up 8% to 12% of total operating cost, according to McKinsey research.
Savings here often come from improving workflows across support functions and manufacturing leaders can find success by simplifying reporting requirements or automating a few manual processes where possible. Even cross-training teams and reducing unnecessary meetings can make a noticeable difference. The focus is on evaluating standard operating procedures rather than cutting core support.
Equipment — Equipment costs include depreciation, repairs, and preventive maintenance. Depreciation is fixed in the short term and, over time, repair and maintenance costs determine total equipment cost. One way to get ahead of these costs is through preventive maintenance. The Department of Energy estimates that reactive maintenance can cost three to five times more than planned maintenance once repair expense and production disruption costs are included. Staying ahead of equipment issues helps avoid those spikes and keeps production on schedule.
Production and Scheduling — Many overhead costs stay the same whether the plant produces 100 units or 1,000. Those same costs are just divided across fewer units, which increases cost per unit. Longer production runs and fewer changeovers are well-established ways to improve efficiency and lower cost per unit. Another area to consider is coordination between sales and operations. When order timing and production capacity are better aligned, it can reduce rush jobs and other unnecessary variability that increases cost per unit.
Energy — Electricity costs are up roughly 21% over the past five years, and global instability continues to affect gas and oil markets. While pricing is largely outside plant control, energy usage can be successfully managed by considering an energy audit to identify inefficiencies. There are programs that focus on optimizing HVAC, lighting, and equipment, which have been shown to reduce energy bills by as much as 5% to 20%. Even taking simple actions such as shutting down equipment when not in use and adjusting production timing to avoid peak demand charges can lower cost per unit.
Facility Costs — Facility costs include areas like rent, property taxes, insurance, utilities, and building maintenance. Management may want to review space utilization and align the plant footprint with current production levels. This can help control long-term facility costs. New vendors may also need to be sourced for more competitive pricing.
Indirect Materials and Supplies — Indirect materials include lubricants, fasteners, replacement parts, and other smaller items. These costs can add up over time, especially if inventory isn’t tracked consistently. Updated inventory software or ERP tracking tools can help reduce overhead in this area.
Next Steps for Manufacturing Leaders
Managing manufacturing overhead does not require a full operational overhaul, it starts with visibility. Rank overhead categories by total dollar impact and review which ones most affect cost per unit. Measure overhead consistently and monitor trends alongside production levels. Look for changes tied to volume shifts, downtime, or process inefficiencies.
Focus first on high-impact areas. Maintain consistent production schedules, prioritize preventative maintenance, and review indirect operations for workflow inefficiencies. Small adjustments made over time often produce more durable savings than broad cost-cutting initiatives.
Contact Us
Manufacturing overhead is often less visible than direct costs, but it can have a measurable impact on margins. A targeted review of overhead drivers, allocation methods, and operational metrics can help identify opportunities to improve efficiency and protect profitability. If you have questions about the information outlined above or need assistance with another tax or accounting issue, BMSS Advisors & CPAs can help. For additional information call (833) CPA-BMSS or click here to contact us. We look forward to speaking with you soon.