Most people have a general idea of Actual Cost but don’t know about Planned Cost.
The difference between the two costs is significant because they can impact your business decisions.
Planned cost is determined ahead of time and considers all the associated costs of manufacturing a product. Planned cost can contrast with the actual cost, the actual amount spent on a product.
Knowing the difference between these two types of costs can help you make better decisions for your business.
Planned cost is the estimated cost of a particular product. It is determined based on historical data of that product before manufacturing the specific product.
It includes the components like direct raw material charges and direct labor charges.
Planned cost principles
While estimating the cost, you need to follow certain principles. They are listed below.
- Must know the industry and market well: It is crucial to understand the product industry that you will estimate. Simultaneously you must know the market value of that product.
- Understand the estimating techniques: To increase estimation accuracy, understand the different techniques, such as plus-minus tolerance, bottom-up, top-down, etc. and choose the right one for your business.
- Use the suitable tools: Estimating tools help you improve the accuracy by 30%.
- Study the historical data and management review: They allow you to cross-check your estimation and help reach business standards.
Difference between planned cost (PC) and actual cost (AC)
Before talking about the difference, we must know the actual cost. The actual cost is the amount spent on a product for its production.
That includes labor costs, delivery charges, and indirect expenses.
- PC determines before producing a particular product, whereas AC determines after producing that specific product.
- PC calculation includes only direct costs like labor and raw material costs, but AC calculation includes direct, indirect, fixed, variable, and sunken costs.
- PC is an assumption, but AC is the exact amount spent.
Earned value management system
It is a measuring process for a project at any given time, integrated with cost baseline and schedule baseline.
Earned value management system contains three elements. They are Planned value, earned value, and actual cost.
- Planned value: It is the cost or budget reserved to complete the work in a given time. It is also called Budgeted Cost for Work Scheduled (BCWS)
- Earned value: It is the value of completed tasks to date. It is also called the Budgeted Cost of Work Performed (BCWP)
- Actual cost: The total cost you have spent on a project or work. It is also called as Actual Cost of Work Performed (ACWP)
It is called favorable variance if the actual cost is less than the planned cost. Conversely, if the actual cost is greater, it is an unfavorable variance.
What is the difference between planned cost and budget?
A budget is the amount of money readily available to spend on products or projects over a while. Generally, the budget is set by the customer.
But the planned cost is the estimated cost to produce the final product or complete a project. The manufacturer or vendor forecasts it.
A budget is for a shorter period, whereas a planned cost can be for the long term.
A budget considers all indirect and direct costs, but a planned cost only covers the direct costs.
How can you reduce your product’s planned cost?
You need to understand the factors on which the planned cost depends. They are as follows.
Raw material costs: You can reduce them by choosing the right supplier, negotiating the price, and using an alternative raw material.
Labor costs: By automating the production process, you can reduce the labor cost.
Overhead costs: Improve your manufacturing process to reduce overhead expenses like electricity bills, water charges, etc.
You need to optimize your production process and improve efficiency to reduce planned costs.
Knowing the difference between planned and actual costs can help you make better decisions for your business. For example, the estimated cost of a product, the Planned Cost, is determined based on historical data of that product before the manufacturing of the specific product.
The actual cost is the amount spent on a product for production, including labor costs, delivery charges, and indirect expenses.