How to Build a Should Cost Model

%20(1).avif)

Amy Deiko
October 10, 2025

Free Supplier Risk Scorecard Download

Download our free supplier risk scorecard here!

What’s a Should Cost Model?

Think of it as the most effective way to discover how much you should pay for the goods and services your business needs.

A good cost model should be built from the ground up, based on real data. With this, you don't need to wait to get a quote from a potential supplier to know if you're within budget. That gives you the upper hand in negotiations, helps you spot inflated costs, and builds confidence in your decisions.

How It Works

A should cost model breaks down every cost element involved in making or delivering something. For example, if you’re sourcing a mechanical component, your model would factor in:

The cost of raw materials (like steel or plastic)
The labor hours required for assembly or machining
The production process (equipment use, energy, maintenance)
Packaging, shipping, and customs fees
Overhead and reasonable supplier profit margins

Key Components of a Should Cost Model (300–350 words)

Want to understand what makes a should-cost model work?

Start by looking at its main components.

Material Costs

Materials are usually the biggest cost. You’ll want to look at current market rates for raw materials, sub-components, or even commodities if you’re dealing with metals or plastics.

Labor Costs

How much labor is involved in making or assembling the product? Wages vary wildly by region, so it’s not just about how many hours you’ve spent, but where those hours are being paid.

Manufacturing or Production Processes

Every production method, whether it’s machining, injection molding, or manual assembly, comes with its own cost profile.

Logistics and Transportation

Shipping fees, fuel prices, duties, and tariffs add up, while packaging choices can swing your logistics costs up or down.

Overheads and Margins

Understanding supplier overheads and profit margins gives you leverage when it’s time to negotiate.

Why Use a Should-Cost Model?

Better Negotiation Power with Suppliers

When you walk into a negotiation armed with data, the conversation shifts. A should cost model lets you:

Back up your arguments with real cost breakdowns.
Ask informed, targeted questions instead of broad ones.
Build mutual trust by showing you understand their process and margins.

Transparency in Supplier Pricing

A should cost model reveals the breakdown of a quote, helping you spot inflated margins.

Benchmarking Across Multiple Vendors

The model brings consistency, helping you compare suppliers effectively.

Identifying Inefficiencies and Cost-Saving Opportunities

By breaking down costs, you can pinpoint areas for optimization.

Supporting Make vs. Buy Decisions

Should cost models provide the hard data needed for strategic decisions, shaping your sourcing strategy.

Steps to Build a Should-Cost Model

Step 1: Define the Scope

Decide what exactly you’re analyzing to ensure focused insights.

Step 2: Collect Data

Gather data on material prices, labor costs, logistics, and overheads using reliable sources.

Step 3: Break Down the Cost Drivers

Dissect the product into its main cost components.

Step 4: Use Benchmarks and Historical Data

Utilize previous purchase records and benchmarks for reference.

Step 5: Validate with Experts

Engage cross-functional teams for input to enhance your model’s accuracy.

Step 6: Apply Scenario Analysis

Test various scenarios to prepare for market shifts.

Best Practices for Should-Cost Models

Keep It Simple and Flexible

Focus on key cost drivers to enhance usability.

Use Reliable and Current Data

Make it a habit to refresh your data periodically.

Collaborate Across Teams

Involve multiple departments for a realistic model.

Update and Refine Regularly

Review constantly to adapt to changes in the market.

Focus on Relationships, Not Just Numbers

Build transparency and collaboration with suppliers.

Key Takeaways

A should cost model aids in understanding actual costs based on real inputs. It provides leverage in negotiations and uncovers hidden inefficiencies while promoting transparency and collaboration between you and your suppliers.