hourly labour rate = (monthly salary) / (working hours in the month)
but is it so straight forward? Of course not. Let's work through the uncertainty in the above equation, one element at a time:
Monthly Salary
Let's assume our employee earns R10 000 per month. The first obvious question is 'does this represent to total cost to company (CTC)?' - depending on your company's protocols, there may be additional monthly employment costs (e.g. medical aid, travel allowances, etc) - although most South African companies nowadays work on a Total Cost to Company basis that includes these items.
But even that is not the whole story. What about :
- employee expenses (e.g. cell phone and meal claims) that are paid as part of their salary, but cannot be directly allocated to specific projects ? Some employees may routinely cost you more than others in terms of their monthly expense claims.
- annual or merit bonuses ? these may only be paid once or twice a year, but there is a good argument that you should include this in your labour rate calculations - particularly if you want to accurately determine the profitability of a project. You may have a star employee that you reward regularly with bonuses - but if you ignore the costs of paying her bonuses, all of her projects' profitability will be incorrectly inflated.
- training, conference, visas & professional registration costs ? these costs may not be directly attributable to specific projects, but they are also not general overheads. Some employees may routinely cost you more than others in terms of these costs and at the end of the day their hourly cost to company will be higher.
So - depending on whether you include the above factors or not - the 'monthly salary' figure for your employees may vary significantly from the true cost of employment.
Working hours in the month
The actual number of hours worked can vary significantly - depending on what you are talking about:
This illustrates that the divisor element in our labour rate calculation is just as uncertain as the numerator element. But wait - it gets worse:
Individual vs Blended Rates
Many companies prefer to use blended labour rates rather than individual rates. Individual rates are unique to each employee, depending on their specific salary (and of course their unique expenses, bonuses, overtime, leave, etc as illustrated above - if these are taken into consideration at all) whereas blended rates are an average (or median) for a specific group of similar employees (e.g. Junior Engineer).
Blended rates have two advantages. Firstly they ignore the complexities described above (expenses, bonuses, overtime, etc) making labour rate and project cost calculations fairly straightforward. Secondly they offer a degree of privacy by 'hiding' the exact salaries that specific employees earn. This is useful if employers are concerned that staff with access to the project planning/costing system should not have access to specific salary information of their peers.
The downside to blended labour rates is the massive loss of accuracy. Depending on how the grouping is done (e.g. by job title or band) and the number of employees in each group, the blended rate can deviate from the actual rate by over 100%. This is particularly problematic in smaller and medium companies as in order to create meaningful 'groups' of employees a wider range of salaries need to be included - resulting in a greater deviation from the mean (or median) value. An analysis of project profitability using blended rates may give you a vague feeling of the project performance, but it is unlikely to be very accurate at all.
How to solve this wicked problem ?
So when it comes to accurate project costing, there are a number of factors that need to be considered that will influence the final picture for labour costs when you start to look at individual project profitability (and we have not even started to talk about company overheads! Look out for our blog entry on overheads coming soon).
Fortunately FRESH PROJECTS has been built with these complexities in mind and deals with the issues in a graceful manner:
- overtime - some employees are clock watchers and will only work 8 hours a day (or maybe even less) while others may end up doing 60 or more hours in a week. This spread alone introduces a variation of over 50% in the accuracy of project costings if the actual number of hours is not captured accurately by your company (or even worse, just assumed to be 40 hours).
- leave - annual leave, public holidays and sick leave are all included in the '40 hour per week' contract that you have with your employees. The actual number of days taken as leave or sick leave will vary from employee to employee and from month to month. How do you deal with these non productive hours - are they included in the company overhead or do you account for them separately ?
- other non productive hours - travel time to project meetings, idle time when the power fails, staff functions.... all of these need to be paid for, but they do not contribute to any specific projects
- accuracy of timesheets - employees may claim they spend 18 hours last month on Project X - but did they really ? How good is their memory ? What about the time spent in the car going to the meeting ? That time spent on Facebook ?
- the month - While the average number of working days in a month is 21.67, some months (e.g. February) have fewer working days than others. Strictly speaking this means the hourly rate spend on your employees will vary from month to month (even if everything else listed above stayed the same)
This illustrates that the divisor element in our labour rate calculation is just as uncertain as the numerator element. But wait - it gets worse:
Individual vs Blended Rates
Many companies prefer to use blended labour rates rather than individual rates. Individual rates are unique to each employee, depending on their specific salary (and of course their unique expenses, bonuses, overtime, leave, etc as illustrated above - if these are taken into consideration at all) whereas blended rates are an average (or median) for a specific group of similar employees (e.g. Junior Engineer).
Blended rates have two advantages. Firstly they ignore the complexities described above (expenses, bonuses, overtime, etc) making labour rate and project cost calculations fairly straightforward. Secondly they offer a degree of privacy by 'hiding' the exact salaries that specific employees earn. This is useful if employers are concerned that staff with access to the project planning/costing system should not have access to specific salary information of their peers.
The downside to blended labour rates is the massive loss of accuracy. Depending on how the grouping is done (e.g. by job title or band) and the number of employees in each group, the blended rate can deviate from the actual rate by over 100%. This is particularly problematic in smaller and medium companies as in order to create meaningful 'groups' of employees a wider range of salaries need to be included - resulting in a greater deviation from the mean (or median) value. An analysis of project profitability using blended rates may give you a vague feeling of the project performance, but it is unlikely to be very accurate at all.
How to solve this wicked problem ?
So when it comes to accurate project costing, there are a number of factors that need to be considered that will influence the final picture for labour costs when you start to look at individual project profitability (and we have not even started to talk about company overheads! Look out for our blog entry on overheads coming soon).
Fortunately FRESH PROJECTS has been built with these complexities in mind and deals with the issues in a graceful manner:
- the project costing engine calculates accurate labour costs that include:
- ALL employee expenses
- ONLY actual, accurate productive time (as captured by our smartphone and desktop apps)
- labour rates are recalculated continuously (e.g. if you pay a bonus for the completed year in December, this cost will be included in all time captured since January), and you can decide which expenses you wish to include or exclude from your labour rate calculation
- overhead activities (e.g. holiday or idle time) are tracked and costed separately (but still included in overall project profitability)
- the reporting engine can be configured to use blended (or obfuscated) rates when displaying costs to certain users, and exact costs when displaying the same information to authorized users (e.g Directors).
which all means that you are able to easily get a more accurate picture of your project profitability - which allows you to manage your projects, employees and clients towards an economically sustainable outcome!
