How to Calculate Direct Labor Cost

There are two types of costs that construction organizations deal with on a daily basis in the workplace. These costs are direct cost and indirect cost. Although both costs are important, premium consideration is placed on direct cost because of the degree of impact it has on the fortunes of the company. Project Managers spend a lot of time and resources to calculate the direct cost. Get it wrong, and it could prove fatal for the continued existence of the company.

Before we provide you with a break down of how to calculate direct costs, let us first understand what the term means.

What is Direct Labor?

Direct labor is a sum total of all wages and salaries paid to workers who may be full workers or subcontractors involved in the execution of a work contract. Their roles have a direct impact on the project. In essence, they serve the interest of the firm by directly carrying out tasks or fulfilling roles that contribute to the progress of the project.

 

How to calculate direct labor cost

The expenses incurred as direct labor cost depends on the degree of efficiency at which the workers executed their tasks. To get a clear picture of how much your organization is paying as a direct cost to workers, you may have to calculate the cost per unit by placing a value on individual tasks. Typically this means having a Job Number attached to each employee timesheet. Having said that, here are simple steps to calculate direct labor costs.

 

  1. Calculate the hourly labor rate

The first thing you have to do is to calculate the hourly rate for the labor. You may choose to add items like payroll taxes and (or) fringe benefits also. To arrive at the hourly rate, simply divide the value of the task by the number of man-hours out in by each individual worker. For example, assuming each worker worked on the project site for 40 hours every week at an hourly rate of $20 per hour, and they also get fringe benefits worth $40 and payroll taxes worth $50. You may also need to add in Union dues, etc. Simply add the payroll tax and fringe benefits together ($40+$50) then divide the value by 40 workweek hours. Now, add the value to $20 to arrive at the hourly rate.

  1. Calculate the hours for direct labor

The direct labor hours refer to the maximum hours required to complete a given task. To arrive at an accurate direct labor hour per task, divide the total number of tasks by the total number of labor hours required to complete all the tasks. You will arrive at the number of hours each task will take.

  1. Calculate cost per unit

To arrive at the labor cost per unit, multiply direct labor hourly rate by the maximum number of hours required to complete a single task. For instance, if the hourly rate stands at $20, and it takes 0.1 hours to finish one task, the direct labor cost will be arrived at by multiplying $20 by 0.1 hours.

  1. Calculate the difference between actual labor cost and standard cost

There is something called variance in labor cost calculations. Variance is calculated by calculating the difference between actual direct labor cost and standard cost per task. If direct labor cost per task is higher than the standard direct cost per task, this is an indication that the construction organization spends more money to complete one task than they planned for. On the other hand, if the actual direct labor cost is lower, this serves as an indication that the organization spends a lower sum to complete a task than the standard rate of direct labor, making it a favorable deal.

 

Construction companies have different approaches to calculating direct labor costs. However, the above examples we gave are relatively straightforward and was to utilize. In the end, just use a method that works for your project.

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