Non-recurring costs are a special category of costs that need to be reviewed during a price analysis. Depending on the value of the non-recurring, relative to the recurring portion, will determine the depth at which you need to dive into an analysis. During this webinar, we will discuss Non-Recurring in broad terms, as well as show you how to analyze Non-Recurring costs in SpendLogic.

Transcript:

Hey there. This is Patrick Mathern. I am the president of SpendLogic, and welcome to another live stream event here on YouTube. So today, what we want to talk about is something called non-recurring costs. This is something that we get a lot of questions about, and we figured we’d put on a little webinar to give you really the basics of what non-recurring is all about and how to analyze it.

You know, we’re going to talk about what is meant by non-recurring. I’m going to give you some loose definitions. It’s not very scientific, but, you know, this can be an area that can be pretty confusing. And depending on how deep you get into it, it seems like you can kind of make the case where anything could be either recurring or non-recurring.

So what I’m going to do is basically just give you a framework, and I’m going to give you some ideas on how to look at it in the context of price analysis. That’s really going to be where our focus is rather than the true definition of recurring and non-recurring. And by the way, at the end, I’m going to show you a little demo of how we do it in SpendLogic.

There’s multiple ways to get through it. So for those of you…I know that we’ve got some clients that are logged in here. For those of you that are doing price analysis in SpendLogic, this should give you some tools on how to do that in the program itself. All right, let’s get started. So the first thing that we’re going to talk about is really the basics. Okay.

What is the definition of non-recurring costs? I’m going to go about this a little bit backwards, and I’m going to talk to you about what a recurring cost is, to start with, and then back into non-recurring. So recurring costs, based on if you look at FAR 17.103, which is an area where there’s a definition, there is no definition in 2.101, so this is where I’ve turned to. In this section, it says, “Recurring cost means any costs that vary with the quantity being procured, such as labor and materials.”

Okay, that’s pretty broad, right? And so let’s look at the other side of the coin, and this is not what’s written in 17.103, but if you look at recurring cost definition, you say, “Okay, well, everything else is non-recurring then.” So in contrast, that would mean non-recurring costs are costs that do not directly vary with quantity, right, or they do not vary with quantity.

But that kind of makes…you know, raises some questions. If you really dive into this, let’s say that, you know, you bought…if you only looked at things that did not vary with quantity, you could get into program management. You could get into budgeting. You could get into some of those indirect costs that get into the definition of direct versus indirect. And really what I want to make sure that we do, first of all, is really we look at direct costs.

Okay. So we’re talking recurring and non-recurring as far as direct goes. Don’t get into the indirect stuff because then, like I said, you go down this rabbit hole, and you just get completely lost. So keep it simple. Recurring, think of recurring as anything that varies directly with the quantity being purchased, and non-recurring is everything else.

Stay out of direct versus indirect, and just look at, you know, your direct costs head-on. Hopefully, I’m not confusing you more than I should, to start out with. So let me get into some examples of how this works, okay? Let’s work through one together. So let’s say that you’re buying…many of you on this webinar are going to be, you know, familiar with a “production run” of something.

So let’s say you’re buying a production run of widgets, okay? It requires…on the screen here, you can see the different categories of labor and material that it requires. So first off, you’ve got design labor, production labor, production material, and something called heat treat. So first off, top of the list is design labor. Okay. This is…it shows here that it’s incurred once, okay, over the course of the production run.

So by definition, you know, if it’s going to be incurred once and it’s not going to be incurred for every unit, then it follows our definition, and it’s going to be a non-recurring cost. Okay. That’s in contrast with the next two. So production labor and production material are going to be incurred by unit.

So, again, by the very definition that we just talked about on the previous screen, these are going to be things that are recurring in nature, right, because they vary directly with the quantity. If you produce five units, then you’re going to have five units of production labor.

You’re going to have five units of production material. If you produce 10 units, then your production labor units are going to go up to 10. You have to do it on every single unit that you produce regardless of how many you produce. Okay. Now, the last one, heat treat. Okay. Heat treat is an example of something that’s done by…I said by run in this example.

So it’s by production lot, is what I’m trying to get to here. So heat treat is going to be done, for those of you familiar, basically, you take all your units, you put it in an oven, and you de-stress it, right? You heat treat it. So if I’ve got…and there’s definitely a limit on how many you’ll fit in the oven, but if I’ve got a run of 10 units, right, I’m going to take all 10, put them in the oven at once.

If I did a run of five units, I would take all five of those and put them in at once. The cost for the heat treat is the same, okay, but it’s a non-recurring cost. It’s not directly variable with the number of units. So let’s say that I’ve got a capacity of 100 units in my oven. If I produce 10 units, okay, my heat treat cost is going to be the same as if I put 50 units in that oven, right?

It’s not a per-unit cost. It’s total cost. So that’s what I mean when it’s, you know, directly variable with number of units. Every time you produce one, you get more incremental cost. That’s not the case with something like heat treat or with non-recurring, in general. As you add incremental units, you may or may not add cost, but it won’t be incremental.

It’ll be by the lot or by the production run. Okay. So if you’ve got a basic understanding of what we’re talking about, recurring versus non-recurring, then the next question is, “Okay, how much analysis do I actually have to do on my non-recurring?” Right? We typically focus all of our efforts on that recurring cost, so, you know, the production run of the units, the thousand dollars per unit that it’s going to cost to actually buy these things.

So where does non-recurring fit? Well, as with all questions related to price analysis, it depends, right? Here’s a couple of scenarios, and I’m going to tell you…I’m going to give you some basic rules of thumb to live by, but consider these scenarios. So the first scenario here is you’ve got a $250,000 cost in recurring and a $500 cost in non-recurring. In this case, your non-recurring is very, very small as far as the overall, you know, cost of the production run.

So I would say you’re going to need less. I’ll tell you how to think about this in a minute. Number two, let’s say you got $500…this is wacky, but you’ve got $500 in recurring cost, right, and $250,000 in non-recurring. Okay. Obviously, you’ve got a lot of non-recurring, so you’re going to have to spend some time explaining this and looking at the price of this, right? What if, number three, you have 7,000 of recurring and 2,000 of non-recurring?

Okay, now, you’re under the simplified acquisition threshold. You know, it’s not a very big procurement, you know, by any measure. So you probably don’t have to spend that much time on either side of the equation. Okay. Let me tell you how I kind of came to these situations. Actually, let me run you through one more scenario and tell you why it actually matters. So let’s say that you’ve got a purchase of $110,000 for quantity 10, okay?

Your recurring is $10,000 per unit, non-recurring is $10,000. Why does it even matter if you have to break it up? This is going a little further than just defining recurring versus non-recurring, but I want to give you a feel for why it matters downstream and why you really should pay attention to breaking out recurring versus non-recurring.

So what a lot of companies do, you know, that we’ve seen is that they’ll take the total cost divided by total units, and there you go, price per unit. And they just kind of lump recurring and non-recurring together. So in this example, if you did that, you would get, since you have 10 units, $110,000 total, you would get $11,000 per unit.

A hundred and ten thousand divided by 10 units is $11,000, right? So, okay, you’ve got $11,000 in your system. Let’s go on to Purchase 2. So based on that $11,000, you know, you’ve got a quantity curve that brings your price per unit down to, let’s say, 9,000 bucks based on quantity 20. So that brings your total price to $180,000. Okay.

Well, that had baked into it, you know, the non-recurring cost. So what if you took the non-recurring cost out, you know? So you remove the $10,000 of non-recurring, so you’ve got 100,000, your recurring cost is $10,000 per unit, and you run that down a quantity curve. So now, all of a sudden, your recurring cost is 8,000 per unit for 20 units, and you’ve got 10,000 sitting over here non-recurring that you add on to the end.

All of a sudden, you’ve got a difference in your estimate of 180,000 versus 170,000. Now, as you add zeros, and decimal points, and commas, this becomes much more important, right? This is kind of a small example. It also becomes important when you do a historical analysis. So if you’ve got data in your system that shows that it’s $11,000 per unit and next time you don’t have to buy non-recurring, right, that’s fully taken out, then, when you run that $11,000 down a curve, you’re going to get an artificially high number, and it’s going to add cost in there that shouldn’t be in there, or maybe your supplier is adding cost in there that shouldn’t be put in there.

So you can see, it inflates cost if you don’t separate the two out appropriately. You really should focus on getting that non-recurring and that recurring separated in the system. Okay. So basic rules of thumb. How do I think about this, right? How do we come to some of the conclusions that we just talked about? So rule number one, all right, this is something that you’ll hear in pretty much every video or every training that we do.

Always look at your policies and procedures. So take a look at, you know, what your policies and procedures say as far as price analysis of recurring versus non-recurring. Follow that, first and foremost. Second, the higher the cost, the more analysis is required. And so this applies across all price analysis, recurring, non-recurring, whatever it is that you’re doing. The more complex and the higher the value of the packages, the more analysis and due diligence that you need to show.

Okay. So in absolute value, total cost of the package, if it’s high, especially if it’s over 500,000, or 1 million, or that magical $2-million number, you really need to do more analysis the higher up that scale you go. Number three, the higher the cost or the higher the non-recurring as a percentage of the total, the more analysis is required in non-recurring. So if it’s…you’ll hear this concept tossed around of materiality, okay?

So if the non-recurring portion is material, then you need to, you know, do more due diligence. So what is material? Well, you get into that, and it’s basically this checklist, more or less. But look at it as a percent of the total. If it’s going to move the needle a lot, you know, based on your analysis, then you probably need to spend more time on it, okay?

Number four, if these don’t provide a clear answer, consider the analysis effort, you know, compared with the benefit. So if you can’t really figure out or if it’s not clear whether it’s a high value, low value, or the impact it’s going to have, step back for a minute and say, “Okay, wait a minute. If I pulled this out altogether, if I pulled the non-recurring out 100%, is it going to move the needle, or, you know, is it not?”

And then compare that with, “Okay, if I’m going to do a full analysis of my non-recurring, is it going to take me a full day? Am I going to have to run a competition on this? Is there anything in the marketplace? Is it going to cost a lot of time and effort to go back to the supplier and get other than certified cost or pricing data?” All right. Well, if it’s $200,000 worth of cost, then maybe that’s worth it, right, or $500,000 worth of non-recurring cost.

It could be worth it. If it’s $500 worth of cost, not worth it. It’s probably going to cost you more in time to write the email, ask the questions, clarify it, set up an hour-long conversation on the phone with your engineer, and you, and the supplier, and go round and round, than it would be to take a very high-level overview and say, “This cost is reasonable for X, Y, and Z reasons.”

Okay. You don’t have to go into that much detail. And last but not least, document whatever you do. So once you’ve gone through this checklist and you’ve, you know, made a decision in your mind, “Okay, this is how I’m going to do it, and this is why,” go ahead and just talk about it. Tell the story. You may be wrong, okay?

It may fail in a CPSR. But if you document what you’ve done, then you at least have a record of what was done, and there could be a conversation around it. If there’s a better way to do it, great. Do it better next time. But really document what you’ve done and your reasoning behind it so that you can trace it in the future. All right. So what I’m going to do now is I’m going to give you a quick demo, show you the way that we do it.

There’s a couple of ways to do it in SpendLogic. I’m going to run you through those just so that you can kind of see. Now, recall, you know, there’s really two ways to do non-recurring, okay? I’m going to boil them down to the simplest ways or, you know, the simplest definitions. Number one, non-recurring is real important, and you got to go deep.

Number two, non-recurring is a small portion of total, and so, therefore, the analysis that you do doesn’t need to be as deep. Okay. So what you see behind me is the SpendLogic screen. I’ve set up a dummy example here. And so what I’m going to do, those two methods are kind of set out separately here. So the first thing that I’m going to do is I’m going to say, okay, if non-recurring is small, as a portion of overall cost, right, and the impact is small on your overall cost or your price, the way that you can analyze non-recurring, this is a market comparables-type report, okay, SpendLogic, within the analysis of the overall procurement that you have, it asks you, “Is there a non-recurring price component?”

Okay. If you tell it yes, then you can go ahead and say, “Okay, there’s $1,000 of non-recurring,” and then you can provide a rationale. Okay. Like, this is what I was talking about on that last slide. What’s your rationale? Why is the price reasonable? Give me, you know, whatever thinking that you went through in order to determine that this price is fair and reasonable.

And that’s all there is in this type of method. So if it’s very small and, you know, not a huge impact to overall price, then you can go ahead and use this method, right? It’s very abbreviated. Now, if you do that and it’s a huge portion of your price, you can pretty much bet that your compliance group, whoever’s reviewing your analysis, is going to come back and say, “Hey, listen, you can’t give me 2 sentences on $250,000 of non-recurring costs.

I need you to do a more in-depth analysis,” right? So the other way to do non-recurring in SpendLogic is to separate it out. Okay. On our Parts tab, this would typically have all the parts that are listed on your purchase order. Okay. What you can do with your non-recurring is you can pull it out. You can see on Line 2…so, Line 1 is my recurring units.

I’ve got 123-ABC. This is my test part. On Line 2, I have pulled out the non-recurring. So what you can do is a full-price analysis on just that piece, and you can see that I’ve got a market comparables analysis set up for this. And basically, what this is, is it’ll show you, okay, I’ve told it I’ve got a quoted price for non-recurring, this is my heat treat, and then you can go ahead and do your market comparables.

If you’ve got known prices from other suppliers in the system or whatnot, then you can go ahead and add those sources, and you can, you know, show your price analysis. I compared it to other known prices in the marketplace, and this is, you know, the result of the analysis. You could do this for historical pricing. You could do a published price list, you know. There’s lots of different ways to do this.

There could be a competition, you know. So there’s lots of ways to do this. And the basic idea is this, either include it in the overall analysis for the recurring portion, all right, as it’s still separated out, but it’s a very, very small piece, or set it aside as its own part in the overall PO so that you can show that there’s a full analysis.

And what SpendLogic will do is spit out a full documented analysis with all your…you know, telling the whole story behind it and all your citations and everything. So, high-level recap. Number one, the way to think of recurring versus non-recurring, okay, is that recurring cost is going to vary with quantity.

Okay. There’s a direct relationship between quantity produced and your cost incurred. Non-recurring does not directly vary with quantity. Okay. Like I said, you can get really deep on the definition, and then you start getting into direct costs versus indirect costs and all that stuff, overheads, and all that fun stuff. But really, if you just focus on that, “If I produce one more, do I have to have one more unit of non-recurring?”

If the answer is no, or one more unit of this cost, if the answer is no, then it’s probably a non-recurring cost. Okay. And last, one of these big, you know, non-recurring costs is that lot charge. So maybe it’s a heat treat or it’s an outside process, something that is being done once, or maybe it’s even, you know, a specialized QA process, or something. If it’s being done on an entire lot of units, then it’s non-recurring, and it should be pulled out and analyzed separately.

All right. That’s it for our high-level overview of non-recurring costs. If you have any questions, reach out to us at [email protected]. We get a lot of questions, actually, each week, and we do our best to respond to everybody. So if you have any questions based on what you’ve seen here, then don’t hesitate to reach out to us, again, [email protected].

You can learn more about SpendLogic by going to spendlogic.com, and we have a link there for a free trial of the program itself. Thank you, all, for watching, and I look forward to seeing you participate in another webinar soon. Thank you.