The ability of the production function to operate at its maximum levels of productivity are strongly influenced by the amount of investment that a company is willing to make in the ongoing repair and maintenance of its fixed assets, most of which tend to be concentrated in the production area. Accordingly, a high ratio of maintenance expense to fixed assets, especially on an increasing trend line or in relation to the industry average, is evidence of this commitment.
Divide the total amount of maintenance and repair expense by the total gross amount of fixed assets.
It would be useful to more precisely determine the amount of repairs and maintenance that are devoted just to the production function, but this is not normally broken out in the chart of accounts; the total amount of production equipment is typically listed separately in the general ledger, so the denominator could be restricted to just the amount of fixed assets related to production.
The formula is:
Maintenance and repair expense / Total gross fixed assets
A production manager wishes to determine that portion of the maintenance expense to fixed assets ratio that pertains just to his department. Here is the relevant information from the accounting department:
Maintenance and Repair Expenses:
- Building maintenance expense = $98,000
- Production maintenance expense = $312,000
- Engineering maintenance expense = $14,000
- Other maintenance expense = $29,000
Gross Fixed Assets:
- Furniture & fixtures assets = $201,000
- Land assets = $300,000
- Hardware & software assets = $193,000
- Machinery assets = $2,087,000
Of the listed expenses, the production manager is responsible for the building and the production department but only wants to measure maintenance activity in the production area, consequently, the production manager uses only the production maintenance expense in the numerator of the calculation. Of the assets, all the machinery assets are assumed to belong in the production department.
The resulting ratio is:
Maintenance and repair expense / Total gross fixed assets =
$312,000 / $2,087,000 = 15% Maintenance expense to fixed assets ratio
Limitation of The Ratio
This can be a misleading measurement if not also used in conjunction with some measure of fixed asset replacement, because the amount of maintenance and repair costs will also be high if the underlying base of fixed assets has not been replaced on a regular basis. If there is no information available about fixed asset replacement, then an alternative approach is to split the amount of maintenance and repair expenses into its labor and materials components. A high components portion (especially if it is increasing on a trend line) is a reasonable indication of equipment failures on old equipment that require significant replacement work. Another issue is that some repairs are of a singular nature and will not recur for some time. For example: a roof replacement may only be required once every decade. If there are sudden spikes in the trend line of maintenance and expense repairs, they may be indicators of these unusual items, which can then be excluded from the ratio.