Labor Cost

Why to study labor cost?

• After fabric, second major element of cost
• Controllable
• Major factor upon which orders are obtained
• Direct & Indirect
 Labor costs are affected by the

 production time,
 labor rate,
 number of workers,
 and labor usage
How does labor costs Behave over the world?
• Hourly labor costs can vary substantially under various
circumstances, within a country.
• Generally, the differences are less in the very low wage countries,
And greater in absolute terms, in the more industrialized
countries.
• Even in low wage countries like China and India, the hourly labor
cost paid can vary by as much as 100%, depending on ownership,
for example (privately owned versus government-owned).
• Costs often vary according to plant location within a country
– In China, for example, the labor cost is substantially higher in the coastal provinces
and major cities, than in inland provinces and more remote areas.
• Many developing countries are divided into industrial zones, with
each zone having a different government mandated minimum
wage.
• In some countries, (Tunisia, Morocco, for
example), a company in operation for twenty
years will have a substantially higher average
labor costs than a company in operation for
only two years, due to the annual seniority
premium that must be legally paid.
WAGES & PIECE RATE SYSTEMS
 Direct labour cost
• Remuneration paid to employees who make
the garment :cutters,opreator,pressman etc.
• 2 options of remuneration:
 Time based wages(Hrs worked* Wage rate per
hour)
 Piece rates(Pieces produced*rate per piece
 Time /Skill based Wage system
 Worker is paid at hourly, daily, weekly or monthly rate
 Most suitable for
– Semi skilled and unskilled workers
 Emphasis on quality
 Useful when
– production is automatic
– Output cannot be measured (like maintenance work)
 Differential rate system
– 80% efficiency ----- Normal rate / hr(Semi skilled)
– 80 - 100% efficiency ----- Normal rate / hr(Skilled)
– >100% efficiency ----- Normal rate / hr(Highly skilled)
 Piece Rate
• Fixed rate for each unit produced / job
completed / operation performed
• Payment is made according to quantity of
work done
• Useful when output is measurable
 Advantages of piece rate
• Less managerial supervision needed
• High production cost ensures lower overheads
/ unit of output
• Easy calculation of labor cost
• Labor control becomes easier by way of
separating the inefficient ones
 Disadvantages of Piece rate
• Emphasis on quantity rather than quality
• Tendency to result in increased imperfections
& spoiled productions
• High depreciation
• No minimum wage
• Too much control with management
• Involve work study techniques to measure
time taken to perform an operation
• Indian Apparel Manufacturing
Labor Cost Analysis 2008---A comparison of
labour rate of Different states.

• In India the minimum wages are decided by

the Central Goverment.No state can pay less
than that but can pay more.
Skill Delhi Haryana Gujarat Rajasthan Himachal TamilNadu
Level
skilled 248 192.23 171.7 155 144 139.60

Semi 225 177.23 167.5 145 126 130.76

Skilled
Unskilled 203 167.23 163.9 135 120 121.91
GLOBAL APPAREL MANUFACTURING
LABOR COST ANALYSIS 2008
 Labour cost comparison…..Internationally
Banglades
Cost Unit China India Pakistan h
Labor cost
a US$/hour 1.44 0.83 0.55 0.32
Hours per
operator Hour 8 8 8 8
Hours per
week Week 49 48 48 42
National
holidays
days/year Days 18 11 10 18
 INCENTIVE SYSTEM

• An incentive can be defined as the

stimulation for effort and effectiveness by
offering monetary inducement or
enhanced facilities.
• It may be monetary in the form of a bonus
or non-monetary tending to improve living
and working conditions.
• It may be provided individually or
collectively
 Main factors that should be taken into account before introducing a
scheme of incentives

 (i) The need for producing goods of high quality or

those having very good workmanship or finish and
the manner this can be ensured.

• (ii)The need to maximize production—thus required incentives

to be given to workers. But sometimes workmanship is more
important than quantity of output; in such cases, incentive
schemes of wage payment are not suitable.

 (iii) Where the quantity of work done cannot be

measured precisely, incentive schemes cannot be
offered.
Essential characteristics of a good incentive system
(i) It should be just both to the employer and to the employee. It should be
positive and not unnecessarily punitive and so operated as to promote
confidence.
(ii) It should be strong both ways i.e. it should have a standard task and a
generous return. The latter should be in direct proportion to employee’s
efforts. It should reflect the employer’s contribution to the success of the
company.
(iii) It should be unrestricted as to the amount of the earning.
(iv) It should be reasonable, apart from being simple, for employee to figure
out his incentive in relation to his individual performance, as far as
practicable.
(v) It should be flexible and intimately related to other management
controls.
(vi) It should automatically assist supervision and, when necessary, aid
team work.
(vii) It should have managerial support in so far as production material,
quality control, maintenance and non-financial incentives are concerned.
(viii) It should not be used temporarily and dropped in recission times as
means of wage reduction.
 Individual Incentive Plans
1. Straight piecework plan

2. Bedaux plan

3. Taylor differential piece rate system

4. Merrick multiple piece rate system

5. Halsey weir plan

6. Rowan plan
7. Gantt plan
 Individual Incentives Explained
• Straight piecework plan
– Output X rate per piece
• Taylor differential piece rate system
– Two different rates
– Lower rate for low efficiency workers
– Higher rate for high efficiency workers
– Encourages high efficiency workers
– Simple to understand
– Companies often set high standard to reduce incentives
• Merrick multiple piece rate system
– 3 different rates
– Normal piece rate for 83% of standard output
– 110% piece rate for 83 -100% of standard output
– 120% piece rate for >100% of standard output
• Bedaux plan
– Guaranteed hourly rate till standard production is
achieved
– Additional wage is given for excess units produced
 Bedaux plan Explained
• Operation :Collar attach
– Standard production target : 50 Pc / Hr
– Guaranteed Hourly wage is 15 Rs / Hr
• Operator produces 75 pcs
• Guaranteed wage = Rs 15
• Each collar is given a point = 60 mins / std production target =
1.2
• Excess points produced = 25*1.2 = 30
• Each point is equal to 15 / (50*1.2) =0.25 Rs
• Excess Rs generated = 30 points x 0.25 =7.5 Rs
• Pay 75% of Rs 7.5 as incentive
• Halsey weir plan
– Payment = Guaranteed hourly wage + (33% of time
saved x hourly wage /60)
• Rowan plan
– Payment = Guaranteed hourly wage + Bonus
 GANTT PLAN

Advantage :
Guaranteed minimum wages
Disadvantage:
Unions tend to ask for higher time rate in turn
higher minimum wage / incentive
Group System of wage payment
Certain jobs or operations are required to be performed collectively by a number of
workers. Under such cases each man’s work depends on the work performed by
one or more of his colleagues and as such it is not possible to measure separately
the output of each worker.
Methods usually used for distributing wages to each worker are the following :

1. Equally, if all the workers of the group are of the same grade
and skill, same rate of pay and has worked for same duration.

2. On the basis of the time rates and attendance of each worker.

3. On a specified percentage basis; the percentage applicable to a

worker is pre-determined on the basis of the skill, rate of pay etc.
4. In a group of unskilled and skilled workers, a method of
distribution is to pay the unskilled workers at their time rates. The
balance amount remaining out of the total earnings after payment
to the unskilled workers is distributed among the skilled workers
by any of the methods discussed above.
 Labor turnover
• The percentage change in the labor force of
the organization
• High percentage means
– Unstable labor force
– Frequent changes in make up of labour skills
 Calculating Labor Turnover
• Separation Method
No. of employees left during a period x 100
Average no. Of employees during a period

• Replacement Method
No. of employees replaced during a period x 100
Average no. Of employees during a period

• Flux Method
No. of additions + No. of separations during a period x 100
Average no. Of employees during a period
 Causes of Labor Turnover
• Personal causes
– Retirement, disability, death, dislike of job place,
family responsibilities etc
• Avoidable causes
– Low wages, unsatisfactory working conditions, bad
environment, job dissatisfaction
• Unavoidable causes
– Retrenchment(down sizing), disciplinary reasons
 Costs of Labor Turnover
• Preventive costs
– Cost of
• Providing good working conditions
• Medical, housing and recreational facilities
• Educational facilities to the children of workers
• Subsidized meals
• Other welfare facilities
 Costs of Labor Turnover
• Replacement costs
– Cost of
• Recruitment of new workers
• Training new workers
• Loss of production
– Interruption in production
– Inefficiency of new workers
• Loss of profit due to loss of production
Standard & Variance Analysis
 Standard Costs
Standards are benchmarks or “norms”
for measuring performance. Two types
of standards are commonly used.

Quantity standards Cost (price)

specify how much of an standards specify
input should be used to how much should be
make a product or paid for each unit
provide a service. of the input.
 Exh.
10-1

Variance Analysis Cycle

Take
Identify Receive corrective
Reason for explanations
variance actions

Conduct next
Analyze period’s
variances operations

Prepare standard Begin

cost performance
report
 Setting Standard Costs
Accountants, engineers, purchasing
agents, and production managers
combine efforts to set standards that encourage
efficient future production.
 Setting Direct Labor Standards
Rate Time
Standards Standards

Often a single Use time and

rate is used that reflects motion studies for
the mix of wages earned. each labor operation.
 Standards vs. Budgets

Are standards the same as A standard is a per unit

cost.
budgets?
Standards are often used
A budget is set for total when preparing budgets.
costs.
A General Model for Variance Analysis

Variance Analysis

Price Variance Quantity Variance

Materials price variance Materials quantity variance

Labor rate variance Labor efficiency variance
VOH spending variance VOH efficiency variance
 A General Model for Variance Analysis

Actual Quantity Actual Quantity Standard Quantity

× × ×
Actual Price Standard Price Standard Price

Price Variance Quantity Variance

 A General Model for Variance Analysis

Actual Quantity Actual Quantity Standard Quantity

× × ×
Actual Price Standard Price Standard Price

Price Variance Quantity Variance

Actual quantity is the amount of direct

materials, direct labor, and variable
manufacturing overhead actually used.
 A General Model for Variance Analysis

Actual Quantity Actual Quantity Standard Quantity

× × ×
Actual Price Standard Price Standard Price

Price Variance Quantity Variance

Standard quantity is the standard quantity

allowed for the actual output for the period.
 A General Model for Variance Analysis

Actual Quantity Actual Quantity Standard Quantity

× × ×
Actual Price Standard Price Standard Price

Price Variance Quantity Variance

Actual price is the amount actually

paid for the for the input used.
 A General Model for Variance Analysis

Actual Quantity Actual Quantity Standard Quantity

× × ×
Actual Price Standard Price Standard Price

Price Variance Quantity Variance

Standard price is the amount that should

have been paid for the input used.
 A General Model for Variance Analysis

Actual Quantity Actual Quantity Standard Quantity

× × ×
Actual Price Standard Price Standard Price

Price Variance Quantity Variance

(AQ × AP) – (AQ × SP) (AQ × SP) – (SQ × SP)

AQ = Actual Quantity SP = Standard Price
AP = Actual Price SQ = Standard Quantity
 Labor Variances:
Using the Factored Equations
Labor rate variance
LRV = AH (AR - SR)
= 2,500 hours ($10.50 per hour – $10.00 per hour)
= 2,500 hours ($0.50 per hour)
= $1,250 unfavorable
Labor efficiency variance
LEV = SR (AH - SH)
= $10.00 per hour (2,500 hours – 2,400 hours)
= $10.00 per hour (100 hours)
= $1,000 unfavorable
Responsibility for Labor Variances
Production managers are Mix of skill levels
usually held accountable assigned to work tasks.
for labor variances
because they can
influence the:
Level of employee motivation.

Quality of production
supervision.

Quality of training provided to

employees.
Production Manager