Advanced Manufacturing

Burning the Candle at Both Ends – Segregation of Costs and Cost Rates

In Part 2 of this series, we talked with Cincom Manufacturing Product Manager, Craig Phillips, about the use of pools as places to temporarily accumulate costs that are pending allocation. Pools give you the ability to gather similar types of costs together in sort of a temporary holding pen. Then, on a regular, periodic schedule, items in that pool can be allocated across multiple projects or other logical units.

Today we asked Craig about allowable and unallowable costs and rates used to calculate the impact they have on a given project.

One of the primary classifications associated with a given cost is whether or not the cost is allowable. The allowable designation pertains to the permissibility of building the cost into billing amounts or reimbursement requests. The ability to identify and segregate allowable versus unallowable costs should be built into the management system.

Allowable Versus Unallowable Costs

Burning the Candle at Both Ends - Cost Segregation and Cost Rates
Burning the Candle at Both Ends – Cost Segregation and Cost Rates

What constitutes an allowable or unallowable cost is documented within the Federal Acquisition Regulations (FARs) and is also further explained by the agency accounting regulations defined by the agency that’s involved with a given contract. In some cases, these may be contract-specific.

By definition, unallowable costs are not reimbursable in that they can’t be specifically included on an invoice or built into a cost base.

Examples of commonly disallowed costs would be lobbying expenses. If you are a manufacturer of UAVs (Unmanned Aerial Vehicles), you may be spending millions of dollars to spur congress into passing some regulatory laws related to drones or UAVs.

You are disallowed from building those expenses into the costs of any UAVs you might be building on behalf of the federal government. Other examples would include travel costs above the lowest price option available, interest fees, PR and advertising and alcohol.

While these may be legitimate costs of doing business, these not are reimbursable by the government. They must be tracked and are subject to review, but they also must not be included in the cost basis of goods and services that are billed to the government.

Date-effective Indirect Cost Rates

As we discussed in the piece on pools, indirect expenses may be allocated across multiple projects, products or other units using a variety of metrics. The cost or resources consumed must be prorated to fit the billing unit in question. It does not matter if you are measuring building square footage, hours per employee day or electrical consumption by percentage of the power consumed; those rates are likely not static. The actual rate may vary from month to month.

The calculation of indirect cost associated with a given project must allow for multiple rates driven by date to adequately reflect the real cost over time. An example of this might be how electrical consumption is allocated across multiple months of the year.

Let’s say you have built in a factor for your project that allocates 5 percent of your cost for monthly electrical consumption to the project as an expense. Business is good, so your management decides to open a second shift for your plant. For our purposes, the electrical consumption for the plant doubles over the course of a given month. None of the new business is related to your project, so the net effect on your project costs is zero.

However, your cost factor is based on 5 percent of the total bill. In this case, you would reduce the cost factor from 5 percent to 2.5 percent of the total electrical bill for those billing periods occurring after the second shift was added. The project electrical consumption does not change, but the percentage of the total electrical bill associated with the project does change from 5 percent of the total to 2.5 percent of the total.

Date-effective cost rates allow you to track a cost over time with multiple effective rates in place. Some rates may actually be retroactive; others, like our example, are not. The system should facilitate the tracking of both.

Source: Manufacturing Business Suite

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