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Conduct Should-Cost Analysis

Should-cost analysis reveals the cost at which a supplier should furnish an item or service to the Postal Service, given reasonable economy and efficiency of operations. It should not be confused with the cost analysis of a proposal. Should-cost analysis focuses on continuously improving processes and practices to meet or exceed supply chain requirements. The should-cost analysis breaks down the component costs of a purchase, which give insight into the ideal cost target. The analysis also helps define purchase costs, leads to further refinement of the total cost of ownership (TCO), and helps ensure that the purchase will be conducted with sufficient information.

The following areas are applicable to conducting a should-cost analysis:

When to conduct

Sources for analysis

Possible results

When to Conduct

A should-cost analysis can be complex and time consuming. It can be conducted for large programs or individual projects and can result in substantial savings to the Postal Service. The following circumstances are conducive to conducting a should-cost analysis:

Client or Purchase/SCM Team has little or no previous knowledge of costs

Inadequate competition in the marketplace

Price analysis cannot determine whether a supplier's price is fair and reasonable

Item acquired has a history of increasing costs

The purchase is at the point in the supply chain process when it is defined and major changes are unlikely

Sufficient time and personnel are available to conduct the analysis

Objective of driving cost reductions in the early stages of new product development by challenging requirements, specifications, and services

Current contracts with suppliers where any of the above criteria is met

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Sources for Analysis

Individuals involved in a Should-Cost Analysis should include analysts from the Purchase/SCM Team, as well as representatives from Finance, Engineering, and other relevant technical specialists. They will draw from public sources that include:

Industry benchmarks

Commodity market movements (show historical costs of commodities so cost elements can be correctly calculated by taking into account price fluctuations)

U.S. Census data (e.g., statistics on manufacturers; ratios such as material to labor, or labor costs based on percentage of sales)

Dun & Bradstreet reports (list cost data such as net income based on sales percentage and supplier's SIC)

United Nations Standard Products and Services Code (UNSPSC) (allows analysts to work backward to determine costs, based on industry data)

Current business and financial ratios (e.g., materials to sales ratio)

Annual reports

Other financial information (e.g., Securities and Exchange Commission (SEC) filings for publicly traded companies, market trends, Institute for Supply Management (ISM) reports and forecasts)

These sources are combined with Client or Purchase/SCM Team estimates and any supplier-provided information. Purchase/SCM Team estimates incorporate commodity expertise and previous experience. Supplier information can consist of cost breakdowns from previous proposals, bills of materials (BOMs), and any other insights into supplier depreciation, labor, materials, and overhead. The analysts use these combined sources to determine which cost elements are out of line in comparison with industry benchmarks, as well as the total price.

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Possible Results

The should-cost analysis determines the major cost drivers (e.g., unit volume can be a cost driver when increasing the unit volume produces lower costs because fewer setups are needed). The results of the analysis may lead to:

Exploring alternative ways of making products

Engineers choosing the most cost-effective processes and considering how individual part features might be modified to optimize manufacturing costs

Reducing products' costs and cycle times

Suppliers unbundling cost elements of the purchase so cost reductions can be worked on together

A benchmark for whether a supplier quotation/offer is reasonable

The should-cost analysis does not guarantee that costs will be reduced. Once completed, the analysis allows the Postal Service to work with suppliers to lower costs, when possible. Should-cost-analysis is relevant when like cost components are compared (e.g., comparing apples to apples). The final Postal Service specifications or terms and conditions may not allow for exact comparisons from the should-cost analysis. There may also be fluctuations in prices for components resulting from external or internal factors that will have to be accounted for when comparing costs.

Components of a Should-Cost Analysis

As shown in Figure 2.5, the following cost components are included in a should-cost analysis:

Sales order processing

Inventories (e.g., raw materials, work in process, finished goods)




Delivery to customer

Other costs (e.g., general and administrative [G&A], customer service charges, training costs)

Figure 2.5

Summary of Should-Cost Model

Cost Elements Companies
Sales order processing $80 $50 $50
Holding inventory $312 $210 $216
Packaging/assembly $325 $301 $294
Loading $34 $32 $35
Transportation $185 $175 $184
Delivery at customer $300 $274 $445
Total other costs $566 $545 $637
Total costs $1,802 $1,587 $1,861

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Other Topics Considered

Develop Preliminary Total Cost of Ownership (TCO) Estimates topic, Conceptualize Need task, Process Step 1: Identify Needs

Conduct Market Research and Benchmarking Analysis topic, Decide on Make vs. Buy task, Process Step 1: Identify Needs

Update/Refine Total Cost of Ownership (TCO) Analysis topic, Prepare Project task, Process Step 2: Evaluate Sources

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