COST ESTIMATION
The approximation of the cost of a
program, project, or operation
Cost estimating may be defined as ‘ the
process of forecasting the expenses that
must be incurred to manufacture a product
or a service’
These expenses take into consideration all expenditures involved in
design and manufacturing with all the related service facilities.
Cost estimating also includes predetermination of the quantity and
quality of material, labour required etc.
Estimating requires highly technical knowledge about manufacturing
methods and operation times etc.
Cost estimates are the joint product of the
engineer and the cost accountant, and
involves two factors.
• Physical data - The engineer as part of his job of
planning and manufacturing determines the physical
data.
• Costing data - The cost accountant compiles and
applies the costing data.
Importance of Estimating
• Estimation should be carried out accurately
(realistic estimate)
Too high estimates will not get jobs to the firm by quoting
higher rates according to overestimate
whereas
under estimating will put the owner to a loss and will
lead the concern to utter failure.
OBJECTIVES / PURPOSE OF
ESTIMATING
1. To establish the selling price of a product.
2. To ascertain whether a proposed product can be manufactured
and marketed profitably.
3. To determine how much must be invested in equipment.
4. To find whether parts or assemblies can be more cheaply
fabricated or purchased from outside (make or buy decision).
5. To determine the most economical process, machine or material
for making a product.
6. To establish a standard of performance at the start of project.
7. For feasibility studies on possible new products.
OBJECTIVES / PURPOSE OF
ESTIMATING
8. To assist in long term financial planning.
9. To prepare production budget.
10. To help in responding to tender enquiries.
11. To evaluate alternate designs of a product.
12. To set a standard estimate of costs.
13. To control actual operating costs by incorporating these estimates
into the general plan of cost accounting.
Types of cost estimation
Four common types of cost estimates are
(1) Planning estimate:
A rough approximation of cost within a reasonable range of values, prepared for information
purposes only. Also called ball park estimate.
(2) Budget estimate:
An approximation based on well-defined (but preliminary) cost data and established
ground rules.
(3) Firm estimate:
A figure based on cost data sound enough for entering into a binding contract.
(4) Not-to-exceed /Not-less-than estimate:
The maximum or minimum amount required to accomplish a given task, based on a firm cost
estimate.
ESTIMATING PROCEDURE
• The total procedure is considered to have
three stages.
1. Fixing of design, accuracy and finish.
2. Methods of production
3. Sales and distribution
The estimating department is generally attached with the planning department
and is controlled by production manager.
• The planning department sets down
The requirements and specifications,
Type and quantities of materials,
Make out the drawing,
Lays down the methods and sequence of operations,
Machines to be used,
allowed times and rates of labour etc.
Main items to be estimated in order of sequence are as follows:
DIFFERENCE BETWEEN COST
ESTIMATING AND COST ACCOUNTING
Point of Cost estimating Cost accounting
comparison
1. Type of cost It gives an expected cost of the It gives actual cost of the product based on the
product based on the calculations by data collected from the different expenditures
means of standard formulae or certain actually done for a product.
established rules.
2. Duration of It is generally carried out before It usually starts with the issue of order for
process actual production of a product. Due production of a product and ends after the
to certain unforeseen or unexpected product is dispatched for sale. For sale
expenses coming to light at a later commitments like free repair or replacement,
stage, estimate may be modified or the process continues up to the expiry period of
revised. guarantee or warranty because the overhead
expenses incurred in the above case will be
included in the production cost.
Point of Cost estimating Cost accounting
comparison
3. Nature of A qualified technical person or It can be done by a person qualified for
quality engineer having a thorough accounts instead of a technical person. The
knowledge of the drawings and cost accountant develops his knowledge of
manufacturing process is required. technical person. The cost accountant develops
Thus, it is a technical work, instead of his knowledge of technical terms and process
a clerical one. while working. Thus, this work instead of being
of technical nature is more of a clerical nature.
4. Objectives (i) To set standard for actual cost.
(i) To help in comparison of cost with
estimates to know if they are over, under
(ii) To help in setting up market realistic as well as to know where the actual
price for a proposed product to be costs involve unnecessary wastage of men,
manufactured. materials, machines and money.
(iii) To decide whether it is (ii) To facilitate the budget preparation as
economical to buy or manufacture a well as to provide cost data for future
product under prevailing market estimates of new products of their pricing
conditions. plans.
(iv) To facilitate in filling up of (iii) To facilitate in deciding output targets
tenders or quotation of products for time to time.
supply. After receipt of supply order
from the buyers the production will be (iv) To facilitate in meeting certain legal
started. obligations or regulations.
