As a Senior Manager, Cost Controller or a company owner, are you able to calculate the real costs to your business of a recordable incident? More often than not, companies prepare incident reports, determine root causes, send out Lessons Learned . They track safety metrics like the Total Recordable Incident Rate (TRIR) and others. This is all good but allow me to step away from the topic of occupational safety and instead, put on my business hat for this article. I want to discuss what incidents and accidents cost your business.
From a business perspective, what are these incidents really costing your company?
Companies all have metrics they track to ensure the business is on track for success. Metrics like financial performance (EBITDA), Reliability, Sales, Production Volumes etc. These are some of the core metrics tracked and that are also included as key performance indicators for Management and employees.
Now what happens when we have a disruption in operations? Disruptions in operations can affect bottom line so it’s obviously important to ensure that disruptions are minimized or better yet, eliminated altogether.
An accident for instance, can cause disruption in operations. People may be injured (or worse); equipment/assets damaged causing stoppage in operations; loss of containment may cause environmental cleanup response etc. In most incidents that are considered recordable, some stoppage in production will occur and this stoppage will have both a direct and an indirect cost to your business.
The Iceberg Principle
Most of you reading this article will have heard of the Iceberg Principle. That principle states that there are a percentage of costs associated with Direct Costs (fines, medical costs, sick pay) that are almost immediate and are easily determined and calculated. The others costs (Indirect Costs) are less evident, rarely considered and more difficult to calculate.
These are real costs to your business and form the unseen and larger portion of real costs (that larger part of the iceberg that is under the water and not so obvious). Some estimates say that up to 80% of the cost of incidents and accidents are indirect costs. Clearly then, there is an impact on your business that you may or may not be calculating. These costs will have some negative effect on your core business & operations metrics, so you need to be calculating these. Let’s delve into the Direct and Indirect costs and see if we can determine a formula to calculate the indirect costs to business from incidents and accidents.
Direct Costs of Incidents & Accidents
The direct costs of incident and accidents are those that are immediately obvious to you and are payable (cashflow effect). Examples include:
- Cost of medical treatment
- Compensation payments
- Fines & legal fees
- Cost of replacement property or repairs
In my career, I have investigated many incidents, both major and minor. More often than not, the entire focus is on determining root cause (of course) and then as quickly as possible preparing a written report with Lessons Learned and fixing the root cause issue.
As previously mentioned, I have put on my business hat for this article so I am focussing more on cost and interruption to business because these are the metrics that owners and managers will pay closer attention.
I have noticed in my career that many incident report templates also a line for “cost” which more often than not is either left blank or not given too much attention by the investigation team. After all, they are mostly interested in WHY the incident happened and what we need to do to prevent it from happening again. But I also notice that many non-safety Managers are more interested in getting a report about the causes and less interested to know how the incident affected their business operations (financially, reputation etc).
As mentioned, Direct Costs are easier to calculate and its vitally important that those costs are researched and inputted into the incident report. But the indirect costs can actually cost you more and also need some way of calculating and measuring over time.
Key Points to Consider:
- When you understand what incidents actually cost your business, managers and employees may start taking concrete and visible actions to make sure it never happens again.
- When developing performance KPI’s, cost of incidents should be taken into consideration. However, be careful how you develop those KPI’s or incidents could get covered up.
Indirect Costs of Incidents and Accidents on your Business
As mentioned, these are the larger portion of costs that remain unseen (the iceberg under the water). They are harder to calculate but can have lasting impact on your business operations. Let’s delve into that.
Indirect costs include:
| Lost Time: | Time spent on investigations, preparation of reports etc.Downtime of Employees waiting for start-up of operations.Production downtime awaiting repairs/replacement (output cost)Machinery stopped to free a victimVisits to hospital and relativesAttendance at courts of law |
| Lost Profit: | Failure to meet production datesCancelation or delay of ordersLoss of victims productionCost of hiring & training a replacementReduced productivity and overtimeStartup’s may cause more waste products (i.e. waste polymers in a plastics plant) that will need to be |
| Lost Overheads: | Higher insurance premiumsPlant and staff being idle |
| Incidental Costs: | Difficulty recruiting good staffPoor staff causing an increase in wasteUnwanted incidental effects on other production units (i.e. waste water treatment)Environmental effects that may cause fines (i.e. flaring heavily)Reputation damage to your company in the local community and by your customers. Quality issuesLab and testing costs increase |
Lost Time
This is a cost that is rarely calculated but is very important to business operations. People taken away from their operational jobs to attend or participate in incident investigations or the resulting activities (i.e hospital visits), has a real cost.
For every hour they spend working on an incident investigation, that’s an hour not spent on the core activities of the business. The work they were hired to do! An expense to your business that must be calculated.
Machinery that is idle is machinery not producing the product that you sell. Downtime and repairs of machinery should be included in your cost of incident reports because it has an undesirable effect on your operations. Do you calculate the cost of downtime?
Lost Profits as a Result of Incidents and Accidents
Needless to say, If the operation isn’t producing, it also isnt selling. These interuptions in operations do cause failures to meet production dates and can actually raise the risk of further incidents and also quality issues as operators attempt to make up for the downtime.
Replacement employees may be needed and the workload (overtime costs) on the remaining team whilst waiting for a replacement increases. This raises the possibility of increased errors that can lead to other incidents.
More waste as a result of an incident will cost the company money to remove or process the waste. Is this being calculated?
When there are interruptions in supply, the sales team has to explain to customers that orders may be delayed. A reduction in quality can also result in customer upset and cancellation of orders that can cause them to seek a replacement supplier. This indirect effect has a possible DIRECT effect on your bottom line (EBITDA).
In lean operations especially, the costs and negative effects on business can multiply quite quickly and may take quite some time to fully recover.
Lost Overheads & Incidental Costs
When operations are idle, employees still get paid. After an incident, re-training or more training will be recommended and this can cause overtime issues (especially for shift workers and essential workers). Time spent in a training room is time spent away from the operations. This additional training has a cost and should be calculated (or at least estimated) in your incident reports.
Insured versus Uninsured Costs
Every year, insurance costs are likely to increase. The more you claim, the worse it gets. Making matters worse for your business is all the costs that are NOT covered by your insurance.
A survey undertaken by the UK’s Health and Safety Executive found that for every UK pound sterling (41 Thai Baht) that employers spend on insurance, the uninsured cost of accidents was much higher. Over the course of a year, this uninsured cost amounted to between 8-36 times the insured amount. This is why the direct costs of accidents are often considered the “tip of the iceberg”.
Put into context, if you have a fire that causes destruction and injury costs of THB 100,000, insurance will probably cover that amount. However, it won’t cover 800K-3.6 Million baht of uninsured costs. See below image.
Suggestions for Calculating Indirect Costs
Given that a large portion of uninsured costs is applicable and has a negative effect on your business, it is wise to work out some cost figures to apply.
I would recommend that you calculate and prepare a standard cost sheet to apply to these costs and use that in your calculations.
For example, determine an average hourly cost of Managers time spent on incidents. Work out the cost of Supervisors time and employees time in hours and have a standard set of figures to apply in the calculation. Use the above examples of indirect costs to prepare a line item cost sheet you can use in the calculation.
I promise you that when you calculate the full cost of incidents, it will shock you into thinking and acting differently about the real effects on your bottom line and company reputation. You will pay closer attention to accident prevention by ALL employees but particularly at the leadership levels.
Leaders are held accountable for the operational cost in their departments so use these numbers in your planning and performance KPI’s. Leaders will start to understand that these indirect costs of incidents & accidents are real metrics (even if they are not easily calculated like Direct Costs) and they should be calculated and applied on performance calculations.
Below is another simpler method of calculating these costs of incidents.
Lets look at the formula:
- Direct Accident cost =(a)
- Indirect Time costs: Investigations, loss in productivity, equipment downtime etc = 10 x (a)
- Lost Profit, Overheads & Incidental Costs: = 1 x (a)
Example: You have a serious incident which results in total loss of a machine and 2 persons hospitalized. The direct cost of the incident is 100,000 Baht.
Effect on Operations
The above numbers are just examples but you can work out your indirect costs based on calculated costs internally. Keep in mind the 8-36 multiplier though. My example went to the lower end at a multiplier of 12.
Effect on Sales
To give you some idea of what impact your accidents and injuries have on sales – lets look at the sales required to cover your workplace accidents:
Lets say you have the incident above and the total operations cost is 1.2 million. Lets also say that your profit margin is 35% and your average sales order price is 50,000. In this example you would need to sell 69 extra units to cover the cost of incident. There would be some very unhappy people in the commercial department, for certain. Keeping in mind too that shortages of supply will also affect their customer relations and a host of other issues.
Summary
Once you begin to calculate the real costs of incidents on your business and the bottom line, it will prove to you that recordable incidents should not just be investigated, reported and recorded as a TRIR only.
TRIR is the most common metric to determine your incident rates and is often tied to bonus schemes. However, it does not calculate the costs of incidents. Other common metrics like LTI are also proving to be statistically irrelevant as well. I will write another article on that touchy subject as well. Stay tuned !Neither of TRIR and LTI (and other common safety metrics) are enough, in my opinion, to drive change and motivate Leaders into action. To motivate them into actively preventing accidents and incidents. For many Operations and Line Managers, touching the “hip pocket nerve” will help to drive the right preventative actions. Consider this when developing your employee performance KPI’s.