Cost Estimation and Pricing
Core concepts
Cost estimation builds a defensible cost from material, labor, machine time, tooling, overhead, and margin; pricing decides what to charge given market and strategy. Candidates should understand fixed versus variable cost, direct versus indirect cost, burden rates, learning curves, break-even analysis, and the difference between cost-plus and market-based pricing.
What to know cold
- Cost build-up: material (with scrap allowance), labor (rate × time), machine burden, tooling amortization, overhead, and profit.
- Fixed vs variable: fixed costs do not change with volume; variable costs do.
- Break-even: volume where revenue covers total cost.
- Learning curve: unit cost falls with cumulative volume at a predictable rate.
- Pricing strategy: cost-plus, market-based, value-based; each has different risk.
Traps in questions
Common traps: forgetting scrap and tooling amortization, treating a sunk cost as relevant to a decision, and confusing markup with margin. Markup is applied to cost; margin is a percentage of price - they are not interchangeable. Another trap is assuming a low quoted price is the lowest total cost when quality and lead time differ.
Rule of thumb
For a quick estimate: material cost × (1 + scrap %) + labor hours × loaded rate + tooling ÷ volume + overhead allocation, then apply margin. Always state assumptions; estimates without assumptions cannot be defended.
Worked example
Material is $20 with 10% scrap ($22), labor is 0.5 h at $60/h ($30), tooling is $10,000 over 5,000 units ($2), overhead is 20% of labor ($6). Total cost is $60. A 25% margin gives a price of $80 ($60 ÷ 0.75), not $75 (which is a 25% markup).