“The prototype was $12 in parts, so I’ll sell it for $15.” That is your recipe for disaster, and why so many Kickstarter projects fail. The Bill of Materials (BOM) is just a subset of the Cost of Goods Sold (COGS), and if you aren’t selling your product for more than your COGS, you will lose money and go out of business.
We’ve all been there; we throw together a project using parts we have laying around, and in our writeup we list the major components and their price. We ignore all the little bits of wire and screws and hot glue and time, and we aren’t shipping it, so there’s no packaging to consider. Someone asks how much it cost, and you throw out a ballpark number. They say “hey, that’s pretty reasonable” and now you’re imagining making it in volume and selling it for slightly higher than your BOM. Stop right there. Here’s how pricing really works, and how to avoid sinking time into an untenable business.
The BOM is a list of ALL components that go into a product. Sometimes you’ll have a hierarchical BOM, especially for an electronics project. Here you have a subassembly that includes the PCB and all its components, and then a product subassembly that includes the assembled PCB, enclosure, and fasteners, and then on top of that a packaging subassembly that includes the box and filler and manual and other stuff that’s not exactly the product itself.
Since it is quite possible that you’ll have multiple manufacturers and suppliers for different subassemblies, it makes sense to split the BOM into these separate categories, or at least have a column in the spreadsheet that makes it easy to filter.
The BOM needs to include every component; every bit of wire, every screw, every piece of plastic and resistor, including the amount of glue dispensed. Only then will you have a hope of understanding the complexity and cost of putting it all together.
For a prototype or proof of concept, it’s a labor of love, solving problems that haven’t been solved before and creating a one-off. Going to production is an entirely different equation. Labor costs often exceed BOM costs, and cycle time for a process translates directly into money in some laborer’s pocket. Even if it’s you, your time isn’t free, and every second you spend doing assembly could be spent designing new products or enjoying life. There is a cost associated with the circuit board assembly, the complete build, test, and packaging. There is also a cost associated with setting up the assembly line for each batch. Every component in your BOM must be attached to the rest of the BOM somehow, making your simple assembly process an extensive production. This is why we design plastics to have snaps instead of screws, locating features that speed up assembly and reduce errors, and parts that perform multiple tasks rather than multiple parts.
Understanding the labor cost is essential to understanding the total COGS. One way to do it is to list EVERY step in the process, from taking a part out of a box to handing it to the next station. Every step then gets a cycle time. This is how long it takes to repeat that process. Add all the cycle times for your entire process, and you have the total amount of time it takes to get a product ready. Divide by the labor rate, and you have the labor cost per unit, not including the overhead of the labor.
An example assembly process. With a total of 10 minutes of labor per unit, you have an idea of your labor costs. Even if different people are performing the tasks, you’re still paying for that time.
|Operation||Cycle Time (s)|
|PCBA (THT LED)||10|
|PCBA (THT Battery Holder)||15|
|Remove enclosure from plastic||5|
|Insert PCB into enclosure||15|
|Screw PCB in||30|
|Insert device into tray||5|
|Add Manual to tray||2|
|Slide tray in box||3|
|Total:||600 (10 min)|
The Hidden Costs
When you buy a component, you have to pay for shipping from the distributor to your manufacturer. Then you have to pay for the shipping from the manufacturer to you, and you have to pay for the bulk packaging as well. You may have to pay duties or tariffs. Each of these things contributes to COGS. In addition, you will have waste and excess; a fraction of your production will fail and get scrapped, eating into your overall margins, and at the end of production you will have extra components due to minimum order sizes (you have to order 1,000 yards of fabric but only need 950, so the cost of those 50 extra yards gets distributed among the 950. You also have to store your materials and inventory until it sells, and that real estate isn’t free.
In most cases the tools used to make the product have a limited lifetime. Injection molds can have a lifespan from 5,000 shots up to 1 million shots depending on how much you want to pay, and after that you need a new mold. Other tools will eventually wear down as well or need parts replaced. These are additional costs associated with the COGS, and when you count your injection mold for plastic parts, die for packaging, cliche for pad printing, and in-circuit test fixture, functional test fixture, and other assembly jigs, that cost gets pretty high.
Note that the labor of designing the product or other NRE (Non-Recurring Engineering) doesn’t count into the COGS, but in order for your product to be viable you should have a good handle on this number and amortize it over the total number of units you expect to sell. Even if you make a good profit with fantastic margins, if you don’t sell enough units to pay for all the development of the product, you still have a net loss. The easiest way to figure this out is to take the development costs and divide it into the number of units sold and add it to the COGS. If it’s higher than your sale price, you are losing money. The difference here, though, is that you can make it up in volume. The more units you sell, the more distributed that NRE cost gets, until you are eventually profitable.
Putting it all together
When you add up all these costs, your product might look a lot more expensive than you first thought, but you have a much more realistic picture of the viability of your business, and whether you can sell your product at the price you want, or if you are forced to either cut costs or raise prices. Remember, this is just the COGS; it doesn’t include sales and marketing expenses, loss from theft or returns, customer support, other employee overhead, interest on loans, or profit margin. It all adds up quick, and it’s a wonder anyone can sell anything at a profit.