When engaging with potential customers about your product or solution, the inevitable question arises: “How much does it cost?” The process of determining the sales price is far from straightforward because there are various factors which make up the total Cost of Goods Sold (COGS).

Product cost breakdown

To arrive at a realistic sales price it is crucial to identify all the direct and indirect costs associated with the product. Estimating these costs accurately is critical because if they are too low there’s a risk of margin erosion. Estimate too high and it may jeopardize the product’s business case. We will briefly look at five main areas of the product which contribute to the total product costs.

Product costings

A typical product cost breakdown may include the following items:

• Components – the bits and pieces that you need to buy to make your product.
• Consumables – materials which you need to use as part of the assembly process.
• Assembly – the cost of assembling all the parts into a finished product.
• Testing – the cost of testing the device to check that it’s been built correctly.
• Packaging – cost of packing up and labelling the finished product for shipping.
• Accessories – cost of any documents, manuals, stickers, cables, fittings etc.

There can also be hidden costs which may need to be factored in. These can include licensing or royalty fees for third party proprietary technology and provisions for a warranty or the cost of building defective products.

Distribution and installation costs

Once the product costs are established the next are to consider is how the product gets from the factory to the end customer. These steps may require third party services and charges. For example:

• Storage – if you are building to stock, how much will the storage cost? Is the storage facilities and environment suitable for your product?
• Insurance – will the storage company cover insurance or will you need to take out additional cover for your product?
• Order fulfilment – will this be done in-house or sub-contracted to a specialist fulfilment company?
• Shipping / distribution – what are the total shipping and distribution costs between the factory or storage place and the customer?
• Taxes and duties – if the products are shipped internationally have the applicable import taxes and duties for that country been calculated for the landed cost?
• Installation – will the product need installing by a third-party and how much will they charge?

Operational costs

Once your product is installed and up and running, are there any ongoing operational costs? Depending on the complexity or type of product, you may need to provide aftersales support. For example:

• Third party costs – will the product need to pay any ongoing fees or subscriptions to third party service providers in oder to function?
• Support – is the customer likely to need any after sales support in case the product stops working or malfunctions? Will this be done in-house or contracted to a third party?
• Servicing – does there need to be any provision for servicing, maintaining or refurbishing the product during its lifetime?

End-of-life costs

Depending on the type of product there may be a cost associated with its end-of-life disposal or recycling.

• Reverse logistics – who will cover the cost of returning units so that they can be responsibly disposed of?
• End of life disposal – how much will it cost to responsibly dispose the product at the end of its useful life and who is responsible for this?

Development costs

In addition to the product costs, it may be necessary to factor in any development costs of turning the idea into a product. There are dozens of development costs which may include:

• Registering patents and protecting intellectual property rights
• Specialist contractors such as hardware or software engineers
• Bespoke tooling for injection moldings or metal stamping parts
• Building small runs of engineering development or pre-production units
• Free issuing prototype or engineering demo units to sales or customers
• Third party design verification testing and/or product evaluation testing
• Regulatory product approval testing and certification
• Manufacturing test equipment and custom assembly fixtures
• Miscellaneous costs like shipping devices, couriers and import duties
• Scrappage costs for devices that are damaged or destroyed during testing
• Creating technical documentation such as manuals and quick-start guides
• Long-term ‘soak’ and reliability testing equipment and devices

Depending on the business model, you may choose to amortize development costs into the product’s final price or pay for it separately.

Adding it altogether

By summing up all the applicable costs you can then calculate the total cost of goods sold and have a detailed understanding of the cost makeup. You can then add an appropriate profit margin to calculate the sales price.