Question 5 of 8: Equipment Costing — Rental Rate / Proforma

Question 5: Equipment Costing — Rental Rate / Proforma (20 marks)

Question text not reproduced: the examination questions are © Engineers and Geoscientists BC. Open the official past paper (linked at the top of this page) to read the question, then follow the worked solution below.

A rental rate (or proforma, or "machine rate") is the calculated hourly cost of owning and operating a specific piece of forestry equipment, expressed in dollars per productive machine hour (CAD/PMH), built up from every fixed and variable cost the machine incurs over its economic life. It is the internal accounting benchmark a company (or a contractor billing a company) uses to price a machine's work, to compare owning versus renting/contracting a machine, and to decide whether a machine's actual field productivity is generating an acceptable return — it is called a "proforma" because it is calculated in advance, before the hours are worked, as a planning and pricing tool, not derived after the fact from actual invoices.

The rate is built from two cost categories. Fixed (ownership) costs accrue whether or not the machine works a given hour, and are driven by the capital decision to own the asset: depreciation (recovery of the purchase price, P, less its estimated salvage value, S, over its economic life, n years or n operating hours — commonly straight-line, (P−S)/n per year); interest (or opportunity cost) on the capital tied up in the machine, typically charged on the average annual investment; insurance; and licensing/property taxes. Variable (operating) costs are incurred only while the machine actually runs: fuel and lubricants (consumption rate, e.g. L/PMH, times fuel price); repair and maintenance (commonly estimated as a percentage of accumulated depreciation, reflecting that R&M cost rises as the machine ages); wear items with a shorter life than the machine itself — tires, tracks/undercarriage, saw chain or processing-head knives — each amortized over its own replacement life in hours; and operator wages, benefits and any overtime premium.

To turn these annual dollar totals into a CAD/PMH rate requires one further, critical piece of information: the machine's expected annual productive machine hours, obtained from its scheduled machine hours (SMH, the hours it is planned to be available for work in a year) multiplied by its expected utilization (the fraction of scheduled hours actually spent producing, after subtracting downtime for breakdowns, moves, weather and operator breaks). The rate is then: CAD/PMH = (Annual fixed cost + Annual variable cost) ÷ Annual productive machine hours. For example, a grapple skidder purchased for CAD 350,000 with an estimated CAD 50,000 salvage value after a 5-year (10,000-PMH) economic life carries CAD 60,000/year straight-line depreciation; adding interest, insurance, fuel, R&M and a wage-and-benefits operator cost might total, say, CAD 180,000/year in combined fixed and variable cost, which divided by 1,600 productive hours/year (from 2,000 SMH at 80% utilization) gives a proforma rate near CAD 112/PMH — the figure the company would then divide by the skidder's expected m³/PMH productivity to arrive at its wood cost per cubic metre for that machine.