VALUE ENGINEERING
INTRODUCTION
Value analysis is one of the major techniques of cost reduction and cost prevention. It is a
disciplined approach that ensures necessary functions for minimum cost without sacrificing
quality, reliability, performance, and appearance. According to the Society of American Value
Engineers (SAVE), Value Analysis is the systematic application of recognized techniques which
identify the function of a product or service, establish a monetary value for the function and
provide the necessary function reliably at the lowest overall cost.
It is an organized approach to identify unnecessary costs associated with any product, material
part, component, system or service by analysing the function and eliminating such costs without
impairing the quality, functional reliability, or the capacity of the product to give service
WHEN TO APPLY VALUE ANALYSIS
One can definitely expect very good results by initiating a VA programme if one or more of the
following symptoms are present:
1. Company’s products show decline in sales.
2. Company’s prices are higher than those of its competitors.
3. Raw materials cost has grown disproportionate to the volume of production.
4. New designs are being introduced.
5. The cost of manufacture is rising disproportionate to the volume of production.
6. Rate of return on investment has a falling trend.
7. Inability of the firm to meet its delivery commitments.
Value
The term ‘value’ is used in different ways and, consequently, has different meanings. The designer
equates the value with reliability; a purchase person with price paid for the item; a production
person with what it costs to manufacture, and a sales person with what the customer is willing to
pay.
Example
Cost value. It is the summation of the labour, material, overhead and all other elements of cost
required to produce an item or provide a service compared to a base. Exchange value. It is the
measure of all the properties, qualities and features of the product, which make the product possible
of being traded for another product or for money
Value analysis/value engineering
It is a special type of cost reduction technique. It critically investigates and analyses the different
aspects of materials, design, cost and production of each and every component of the product in
produce it economically without decreasing its utility, function or reliability.
Applications
The various application areas of value engineering are machine tool industries, industries making
accessories for machine tools, auto industries, import substitutes, etc.
2.2 INTRODUCTION
In the process of carrying out business activities of an organization, a component/product can be
made within the organization or bought from a subcontractor.
Each decision involves its own costs. So, in a given situation, the organization should evaluate
each of the above make or buy alternatives and then select the alternative which results in the
lowest cost. This is an important decision since it affects the productivity of the organization
In the long run, the make or buy decision is not static. The make option of a component/product
may be economical today; but after some time, it may turn out to be uneconomical to make the
same.
Thus, the make or buy decision should be reviewed periodically, say, every 1 to 3 years. This is
mainly to cope with the changes in the level of competition and various other environmental
factors.
Make or Buy Decisions - is a determination whether to produce a component part internally or to
buy it from an outside supplier. The Organization should evaluate the costs and benefits of
manufacturing a product or product component against purchasing it and then select the alternative
which results in the lower cost.
2.2.1 CRITERIA FOR MAKE OR BUY
In this section the criteria for make or buy are discussed.
1. Criteria for make
The following are the criteria for make:
1. The finished product can be made cheaper by the firm than by outside suppliers.
2. The finished product is being manufactured only by a limited number of outside firms which
are unable to meet the demand.
3. The part has an importance for the firm and requires extremely close quality control.
4. The part can be manufactured with the firm’s existing facilities and similar to other items in
which the company has manufacturing experience.
2. Criteria for buy
The following are the criteria for buy:
1. Requires high investments on facilities which are already available at suppliers plant.
2. The company does not have facilities to make it and there are more profitable opportunities for
investing company’s capital.
3. Existing facilities of the company can be used more economically to make other parts.
4. The skill of personnel employed by the company is not readily adaptable to make the part.
5. Patent or other legal barriers prevent the company for making the part.
6. Demand for the part is either temporary or seasonal.
2.3 APPROACHES FOR MAKE OR BUY DECISION
Types of analysis followed in make or buy decision are as follows:
1. Simple cost analysis
2. Break-even analysis
1. Simple Cost Analysis
The concept is illustrated using an example problem.
EXAMPLE
A company has extra capacity that can be used to produce a sophisticated fixture which it has been
buying for Rs. 900 each. If the company makes the fixtures, it will incur materials cost of Rs. 300
per unit, labour costs of Rs. 250 per unit, and variable overhead costs of Rs. 100 per unit. The
annual fixed cost associated with the unused capacity is Rs. 10,00,000. Demand over the next year
is estimated at 5,000 units. Would it be profitable for the company to make the fixtures?
Solution
We assume that the unused capacity has alternative use.
Cost to make
Variable cost/unit = Material + labour + overheads = Rs. 300 + Rs. 250 + Rs. 100 = Rs. 650
Total variable cost = (5,000 units) (Rs. 650/unit) = Rs. 32,50,000
Add fixed cost associated
with unused capacity + Rs. 10,00,000
Total cost = Rs. 42,50,000
Cost to buy
Purchase cost = (5,000 units) (Rs. 900/unit) = Rs. 45,00,000
Add fixed cost associated
with unused capacity + Rs. 10,00,000
Total cost = Rs. 55,00,000
The cost of making fixtures is less than the cost of buying fixtures from outside. Therefore, the
organization should make the fixtures.