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Firstly what is ‘Costing’?

If you sell a product, it’s the cost of buying the product, plus preparing it for sale e.g. freight, storage, currency exchange, importation etc.  This excludes overheads e.g. rent, admin wages etc.

If you sell a service or jobs, it’s the cost of direct labour i.e. those who deliver the service and materials.  As per products it excludes overheads.

If you manufacture goods it’s the costs of raw materials, labour, equipment, storage etc. as per selling a product.

Costing, or costs are sometimes referred to as Direct Costs, Cost of Goods Sold, Variable Costs in management reports.

It’s important to understand what are all the costs associated with a product or service, because you need to know that you’re making a reasonable margin i.e. the difference between sell price and cost price.  A reasonable margin covers overheads and contributes to profit.

It’s sometimes considered that selling more volume i.e. more product or service will fix lack of profit and cash flow.  Here’s an example of where this falls short:

Example:

Scenario 1

Scenario 2

Why has the interest gone up?  In the example of this business the debt collection days are running at just under 53 (recent national average per Dunn & Bradstreet) and it has an overdraft of $100,000.  If we sell more and the debt collection days remain the same we will need to borrow, waiting for customers to pay more money i.e. an extra $29,000.  The overheads would likely go up as you would have to spend more on advertising, sales etc. to achieve the extra sales.

Whereas if we could reduce the Costs in this business by 2% it would look like this:

Scenario 3