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close this bookFinancial Management of a Small Handicraft Business (Oxfam, 1988, 43 p.)
close this folderI. Cost calculations in the handicraft industry
View the document(introduction...)
View the documentI. 1. Production costs
View the documentI.2. Overhead apportionment
View the documentI.3. Selling and distribution costs
View the documentI.4. Ways to reduce costs

I. 1. Production costs

(i) Direct costs

There is usually little difficulty in ascertaining precisely the direct costs of a product, but some considerations to be borne in mind are not necessarily obvious.

Materials: It is a straightforward calculation to divide the cost of materials purchased by the number of products it can be used for, giving the unit cost. It should be remembered:

· to include all the materials—trimmings, thread adhesives, dyes etc.

· if transport charges are paid, these should normally be considered as part of the cost of the material

· there may be wastage; the cost of material purchased but unable to be used must be included. For example, if tanned leather has typically 15% wastage because of quality defects or non-usability of corner sections, then the material cost for each item must be surcharged by 15%.

Labour: It is normal in the handicrafts industry to pay piece-rate wages, the rate per piece being the unit labour cost. The calculation of the rate would be based on an average production time for the product multiplied by the remuneration per hour or day. It can sometimes be helpful to impose a production limit so that artisans do not rush the work in order to earn more but thereby produce an unacceptable quality. Where fixed daily wages are paid, there needs to be an accompanying productivity agreement, so that the unit labour cost remains constant. Production of any one item might involve a number of people doing different processes. A precise calculation must be made of the cost of all of them. If artisans are given paid leave, then this is a labour wastage, and an appropriate percentage addition must be added to the labour cost.

Other direct costs: If any machinery is employed in the production process, then the power source is a direct cost to the product. Often, there would be no other direct costs than labour and materials, but labelling and packaging would be one, if labels are used and a product is boxed for sale.

At this stage, we can produce the first half of an essential piece of paper, the product costing sheet (Figure 1).

Figure 1. Fibre Mat Costing Sheet {Direct Costs)

Direct costs

Money unit


Fibre, 2.1 kg at 5 per kg

(2 kg used; 0 1 kg wastage)




Edging material





Fibre sorting and washing






Edging and labelling


Other direct costs



Printed label


Total direct costs

35 on

(ii) Indirect costs

In order to calculate the indirect costs, it is necessary to add up all the other costs incurred in the production unit. These will vary considerably according to the type of unit. Typical overheads might be:

· artisan provident, savings or pension scheme—employer contributions
· wages of administrative and supervisory personnel
· rent of buildings—workplace, office, etc.
· service and maintenance charges—electricity, telephone, etc.
· administrative expenses—stationery, postage
· interest on bank loan
· product development and design, for example, one person might be employed to develop new designs—the salary, and cost of materials used, are overheads
· depreciation of fixed assets—typewriter, furniture, machinery, etc.

An existing production unit would make reference to its previous year's accounts in order to estimate current year overheads, allowing for any additional expenses planned and price increases. A new business must make estimates of what overhead expenses it will incur. When the exercise is completed, a figure will be arrived at for its total indirect costs.

A number of social production units will run special programmes for the benefit of artisans. Provision of a creche, a medical scheme, or a training programme would be examples. Generally speaking, it is unrealistic to include these in the production overheads. Costing provides the basis for pricing, and if costs are included which have no direct relationship to the production activity, then there would be little hope of achieving a competitive price. For this reason, it is preferable to keep a quite separate account for artisan benefit schemes, and it seems reasonable to seek grant assistance if possible to run them. There are many examples of well-meaning enterprises who have tried to fund welfare schemes out of profits but have not generated sufficient profits to meet the cost. Because of inadequate accounting systems, they have often been unable to separate their different costs, and have failed to identify where their difficulties lie, and whether production itself is profitable.

It is assumed here that the production activity will have the objective of at least breaking even. Businesses with a social purpose might be able to attract funding to cover certain overheads, or might have the services of people, or use of buildings, free of cost—for example, a volunteer designer. Ultimately, though, a production unit has to stand on its own two feet. If it cannot cover its production costs by sales revenue, it is not a viable income-generation programme. It would then either close down or become dependent on perpetual subsidy from a charitably-minded agency. Agencies are much more likely to fund specific social programmes running alongside a viable production activity.