Chapter 8
What It Really Costs
Seventeen lines on a single sheet
A box is mostly paper, and paper is where most box makers lie to themselves. I told Meena that on the phone, then promised to send her the cost sheet I use for one carton, because a phenyl bottle and a corrugated box fail in exactly the same way when you cost them by feel. She asked why a box. "Because I've got it wrong more times than you have," I said.
My first cost sheet, written in September 2004 on the back of a Bajaj Auto calendar, had four lines: paper, gum, labour, profit. Profit was a guess I wrote down as though it were a fact. It took me until early 2005 to notice that I was paying for power, rent and the tempo driver out of what I had called profit, and that the profit line was really a hole I was filling each month with my wife's fixed deposit.
The sheet I use now has seventeen lines. Here are the ones that matter for a single box.
The box
Take a regular slotted carton, 400 × 300 × 300 mm, 5-ply, the sort a pump maker in Bhosari uses to ship monoblock motors. Five-ply means three flat liners and two fluted layers between them. The flutes are the wavy middle, and because they are corrugated they use about one and a half times their flat length in paper. Everybody forgets this. I forgot it for eleven months.
Step one: board area. The blank, opened flat, is two lengths plus two widths plus a 40 mm glue flap: 1,440 mm. Its height is the box height plus the flaps, 600 mm, plus 20 mm for trimming. That gives 1.44 × 0.62 = 0.893 square metres of board.
Step two: paper weight. Top liner 150 gsm, middle and inner liners 120 each, two flutes at 100 gsm each but taken up by 1.5 to 150 each. Total: 690 grams per square metre. Multiply by 0.893 and one box carries 0.616 kg of kraft paper.
Step three: everything else.
| Line | Per box (₹) |
|---|---|
| Kraft paper, 0.616 kg at ₹36 blended | 22.18 |
| Starch adhesive | 0.85 |
| Ink and printing plate, spread over the order | 0.45 |
| Stitching wire | 0.30 |
| Power for corrugator, slotter, stitcher | 0.75 |
| Direct labour | 1.55 |
| Process scrap, 3% of paper | 0.67 |
| Variable cost | 26.75 |
| Freight to customer | 1.10 |
| Overheads: rent, staff salaries, repairs, depreciation | 3.20 |
| Interest on 45 days' credit | 0.45 |
| Full cost | 31.50 |
The three lines people skip
The paper line is honest because the paper dealer sends a bill. The danger sits lower down.
Scrap is real paper bought and thrown away. If your Morning Sheet says four per cent and you cost at three, every box carries a twenty-two paise lie, and on 30,000 boxes a month that comes to ₹6,600 you think you have and don't.
Overheads are the line Vilas never had. My factory spends about ₹9.6 lakh a month on things that do not change with output: rent, the supervisors, the accountant, insurance, loan instalments on machines, a share of repairs. Divide that by roughly 3 lakh boxes a month and each box owes ₹3.20 before it has earned anything. Sell more boxes and that figure falls. Lose a customer and it rises, which is a fact nobody enjoys learning in a slow month.
Interest on credit is the one I am proudest of adding, because nobody taught it to me. If the pump maker pays in 45 days, I have funded that box out of my overdraft at around 11 per cent a year for a month and a half. Forty-five paise sounds like nothing. On ninety days it is ninety paise, and that's before the overdraft limit runs out.
Paper prices will not stay at ₹36. They were near ₹48 for some grades in late 2021 and I cannot tell you where they will be when you read this. So the sheet sits in a spreadsheet with the kraft rate in one cell, and every quote starts by changing that cell to today's number from the dealer, not last week's.
I quoted the pump maker ₹34.20. He said ₹33. We settled at ₹33.60, and I knew, to the paise, that I was making ₹2.10 a box rather than the ₹6.85 my calendar method would have shown me.
Meena's photograph came back two days later. A sheet of her own, in blue ink, sixteen lines, with the bottle cap she had forgotten the first time written in red at the bottom: ₹2.40.
The machine that sets the pace
A margin per box tells you very little until you know how long the box keeps a machine busy. I learned this from buddha, Vilas's old slotter, which in 2008 was the slowest machine in my shed and therefore the one deciding how much money the whole factory could make in a day. The corrugator could run board faster than I could sell it. The stitchers sat idle half the afternoon. Everything queued at buddha, the way traffic queues at the Nashik Phata flyover, and no amount of speed elsewhere changed that.
The slowest machine that every job must pass through is the bottleneck. One hour lost there is an hour lost for the factory. One hour lost on a machine that sits idle half the shift costs you almost nothing.
So the number I care about is contribution per machine hour: the selling price minus the variable cost, multiplied by how many pieces the bottleneck finishes in an hour, including the time spent setting it up. Overheads stay out of it, because rent is due whether buddha runs or not. The question is simply which job pays the most for each hour the bottleneck is busy.
Two orders, one slotter
In the spring of 2008 I had two enquiries on my desk in the same week. One was the plain monoblock carton described earlier. The other was a printed, die-cut display box for a cosmetics distributor in Kondhwa, whom I'll call Rakesh (not his name). His box carried a much fatter margin, and I very nearly cleared the slotter for him.
Here is the arithmetic I did that weekend, adjusted to today's paper price so it matches the sheet above.
| Pump carton | Display box | |
|---|---|---|
| Selling price (₹) | 33.60 | 24.00 |
| Variable cost plus freight (₹) | 27.85 | 13.00 |
| Contribution per box (₹) | 5.75 | 11.00 |
| Order size | 6,000 | 2,000 |
| Set-up time on the bottleneck | 20 min | 2 hr 10 min |
| Running speed (boxes per hour) | 900 | 350 |
| Total bottleneck hours | 7.0 | 7.9 |
| Contribution per bottleneck hour (₹) | 4,930 | 2,780 |
Rakesh's box earned nearly twice as much per piece and a little over half as much per hour. The four-colour plate changes, the die alignment and the trial pulls ate more than two hours before the first saleable box came out. On a day when the slotter was full, every hour I gave him cost me ₹2,150 of pump-carton contribution I could have earned instead.
That is how an order can look profitable while losing money. On paper it covers its own variable cost with plenty to spare. It also pushes out better work, and the loss never shows up on any invoice.
What I did with the number
I did not refuse Rakesh. I quoted him ₹27.50 and asked for 5,000 boxes per order, which spread the set-up over more pieces. He took 4,000 at ₹26.80. That brought him up to about ₹4,100 an hour, close enough to the pump carton to be worth having for a second, unconnected customer, and well inside my 25 per cent rule.
Three habits came out of that week, and I still keep them.
- Find the bottleneck by looking, not by guessing. Stand on the floor at 3 p.m. and see where work in progress is piling up. It may not be the machine you expect, and it moves when you buy new equipment.
- Record set-up time on the Morning Sheet for any job over thirty minutes. Most owners know running speeds by heart and set-up times not at all.
- Price short runs as short runs. A minimum order quantity, or a set-up charge printed on the quotation, is not rudeness. My customers grumble at it about as much as they grumble at GST.
I am less certain how this applies to a unit with no clear bottleneck, such as a small food unit where labour sets the pace rather than a machine. In that case I use contribution per labour hour instead, and I treat the result as rough.
When I explained this to Meena, she went quiet on the phone for a while, then asked whether her one semi-automatic filling machine counted. It did. It filled 600 bottles of one-litre phenyl an hour and needed forty minutes of flushing whenever she changed fragrance. She had promised a Satpur hotel three fragrances in batches of 200.
"So the lavender is costing me the pine," she said.
Days, not rupees
The question that finally made sense of Vilas for me was not how much money he made. It was how many days his money spent away from him.
Every rupee in a factory goes on a round trip. It leaves your account as kraft paper or caustic soda, sits on the floor as raw material, turns into work in progress, waits in the godown as finished cartons, rides out on a tempo, and then sits in a customer's ledger until he decides to pay. Only the days your supplier waits for you come off the total. That is the working capital cycle:
- raw material days
- plus production days
- plus finished goods days
- plus debtor days (how long customers take to pay)
- minus creditor days (how long you take to pay suppliers)
The answer is the number of days of running costs you must fund out of your own pocket, or the bank's. Multiply it by what the factory spends in cash each day and you have the money that is permanently out on the road.
One unit, two credit terms
Take a modest box unit of the kind I advise every year. Its shed deposit, machines, wiring and first repairs come to ₹25 lakh. It spends about ₹25,000 a day in cash on paper, starch, wages, power and freight. Its kraft dealer in Chakan gives thirty days.
| Thirty-day customers | Ninety-day customers | |
|---|---|---|
| Raw material days | 12 | 12 |
| Production days | 3 | 3 |
| Finished goods days | 5 | 5 |
| Debtor days | 30 | 90 |
| Creditor days | (30) | (30) |
| Cycle | 20 days | 80 days |
| Working capital at ₹25,000 a day | ₹5 lakh | ₹20 lakh |
| Fixed investment | ₹25 lakh | ₹25 lakh |
| Total cash needed | ₹30 lakh | ₹45 lakh |
Same machines. Same customers, same boxes, same margin on the cost sheet. One clause on a purchase order adds ₹15 lakh to the cash the owner has to find. If that unit earns ₹1.4 lakh a month after expenses, which is a fair month, the extra ₹15 lakh is close to eleven months of its profit, locked inside someone else's accounts department. Borrow it on a cash-credit limit at 11 per cent and you pay roughly ₹1.65 lakh a year in interest for the privilege of being a patient supplier.
And the bank will not lend you all of it. Mr Kulkarni explained this to me in 2008 with his red pen hovering: the bank finances a share of your debtors, usually up to ninety days old, and expects you to bring a margin of 20 or 25 per cent yourself. Debtors older than that drop out of the calculation altogether. The day your biggest customer slips from ninety to a hundred and ten, your limit shrinks at the same moment your need grows.
Why it waits until year three
In the first year nobody gives a new unit ninety days of anything, so the owner buys on cash, sells to small buyers on short terms, and feels poor but survives. By the second year a large customer arrives. He wants ninety days, and he is a famous name, so the owner agrees. Sales double. The profit and loss account looks better than it ever has. Then, some time in the third year, the owner discovers that doubling his sales on ninety-day terms has roughly quadrupled the cash he needs, and the extra cash does not exist. He delays the kraft dealer. The kraft dealer stops supply. Orders are full and the machines are silent.
That was Vilas, almost to the month. His Talegaon buyer never refused to pay. He simply paid later, then later again, and each extra week cost Vilas about ₹70,000 he did not have.
My own cycle, as I write this, is thirty-four days. It was ninety-one in October 2005, which I know because the number is pencilled on the inside cover of my first Morning Sheet file, underlined twice, next to the words "this is why."
Pricing, and the order I'm glad I lost
There are only three ways to set a price, and most small owners use the wrong one first.
Cost-plus is where everyone starts. You take the cost sheet, add a margin, usually 12 to 18 per cent in boxes, and quote. It is honest and it keeps you alive, but it has a flaw: it assumes the buyer cares what your costs are. He does not. If your scrap is high or your shed rent is foolish, cost-plus simply hands him the bill for your inefficiency, and he will find someone cheaper within a month.
Market price is what the buyer is already paying somebody else. In corrugated boxes this is easy to learn, because purchase officers tell you, often before you ask. The discipline is to hold your cost sheet up against that number and look at the gap without flinching. If the market pays ₹2 a box less than your cost, the market is not being unfair. Somebody nearby makes that box better than you do, or is lying to himself about his costs and will close in eighteen months. Either way you need to know which.
The third method is the one nobody teaches. Price the terms, not the box. A quotation is a rupee figure, a payment period, a minimum quantity and a delivery promise. Change any one and the price has changed. A carton at ₹31 on thirty days and the same carton at ₹31 on ninety days are two different prices, and the table above shows by how much.
And sometimes the right price is no price at all.
In August 2009 a purchase manager from a large appliance assembler near Ranjangaon called me in. I will call the company Shree Electricals, which is not its name. They wanted 1.2 lakh cartons a month, more than my whole output then, at a price about 6 per cent under my cost-plus figure, on 120-day terms. The manager, a polite man named Bhagwat, slid the purchase order across the desk with my company name already typed on it.
"Everyone in Bhosari wants this," he said.
I took it back to the office and ran it the way you have just seen. Contribution per corrugator hour came out at less than half of what my poha and pharma customers gave me. The order would have made Shree roughly 60 per cent of my sales, against my own rule of 25. And the working capital cycle went from about fifty days to well over a hundred. I needed something like ₹38 lakh I did not have, and my bank limit at the time was ₹22 lakh.
I wrote back that I could supply 25,000 cartons a month on sixty days at my price. Bhagwat never replied.
A box maker in Chakan took the whole order. I will call him Mahesh. He bought a second-hand corrugator from Rajkot to cope, hired a second shift, and for a year his tempos went past my gate twice a day. I will admit I felt stupid every time.
In late 2011 Shree's payments went to 150 days, then 180. In April 2012 Mahesh's kraft dealer stopped supply. He sold the Rajkot corrugator in July for less than he had paid, and I know the price because the broker offered it to me first. Shree, I should be fair, did pay him in the end, almost every rupee. It arrived about seven months after his unit shut.
I did not refuse that order because I was wise. I refused it because I had watched Vilas, and because the numbers were in front of me in pencil. Without them I would have signed, and you would be reading somebody else's book.
When I told Meena this story she asked the obvious question. Her hotel in Satpur had already said it paid suppliers "around forty-five days, sometimes sixty." Her cost sheet worked. Her filling machine had capacity. What she did not have was any idea how to sell to the next five customers, or how to make the first one pay on time.
"How do you even ask a hotel for money?" she said.
I told her I would send her Sunita's script.