Hello everyone, in the previous topic we were talking about The Sigma Rule (Σ). Today we are going to discuss the Cost Concepts and their Types.

Cost Concepts

The “cost concept” in simple words is “the value, worth and its comparative, exchange rate that an individual or group of individuals place on someone or something else.”

Types of Costs

The following are the various types of costs-

• Direct costs or explicit costs
• Indirect costs or implicit costs
• Fixed costs
• Variable costs
• Accounting costs
• Economic costs
• Total costs
• Average costs
• Marginal costs
• Opportunity costs

Direct cost or explicit cost

Explicit costs are those costs that are met by cash payments for employing various factors of production. The producer actually pays money to produce their goods and services. A director’s explicit cost is the material, labor, expenses, overheads, selling and distribution, administrative cost related to the production of a commodity. It is accurate in nature. An explicit cost can be easily traceable.

An explicit cost can be defined as-

 “An explicit cost is a direct expense that is paid in money to others or creditors during the production of goods.”

Uses of explicit costs-

• It shows the expenditure incurred on the production of the commodity which is considered for pricing strategy.
• It also helps in calculating profits.
• It helps in decision-making.

Indirect cost or implicit cost

Implicit costs are those costs that the firm lets go of or sacrifices in order to hire an alternative factor of production. These costs are opportunity costs of the factors of production. Implicit cost is also called imputed cost. Here cash outflow does not happen.

An implicit cost can be defined as –

“An implicit cost is the factor of production sacrificed by the producer for an alternative factor production. The opportunity foregone is the implicit cost.”

Uses of implicit cost-

• It helps in decision making
• It helps to ascertain opportunity costs
• They directly impact the profitability of the firm

Fixed Costs

Fixed costs are those costs that do not change in the short-run period of time. Fixed costs remain the same regardless of the amount of production and sale of commodities. These costs are incurred by the company irrespective of its production, i.e. even at zero production, the firm incurs fixed costs.

A fixed cost can be defined as follows-

“A fixed cost is the cost that remains the same and fixed irrespective of the production of goods.”

Uses of fixed cost-

• Useful in evaluating break-even analysis.
• Helps in pricing strategy.
• Helps in decision making.
• Helps in controlling variable costs;

Variable Cost

A variable cost is a cost that changes in short-run and long-run time periods. It always keeps on changing. These costs are incurred during the production process and thus are the costs incurred for employing various factors of production. A fixed cost becomes a variable cost in the long run.

A variable cost is defined as follows-

“A variable cost is the expenditure incurred on the production of goods and therefore is ever-changing.”

Uses of variable cost-

• It helps to set prices for the commodity.
• It helps to plan profits.
• It helps in decision-making.
• It helps in cost control.

Accounting Costs

Accounting costs are those costs that a firm actually incurs. These costs are explicit costs. There is an actual expenditure that is kept in records for future reference.

An accounting cost is defined as follows-

“An accounting cost is the actual expenditure incurred by the producer in the course of business. These expenses also have a written record.”

Uses of accounting cost:

• It shows the expenditure incurred on the production of the commodity which is considered for pricing strategy.
• It also helps in calculating profits;
• It helps in decision-making.

Economic Costs

Economic costs are those costs that an entrepreneur incurs while conducting economic activities. For an entrepreneur, economic activity is their business. Therefore, economic costs include all the direct and indirect that the entrepreneur incurs while conducting business. An economic cost is the summation of explicit cost and implicit cost.

An economic cost is defined as follows-

“An economic cost is the combination of direct and indirect costs that are incurred by the firm to produce commodities.”

Uses of economic cost:

• It shows the expenditure incurred on the production of the commodity which is considered for pricing strategy;
• It also helps in calculating profits.
• It helps in decision–making.
• It helps in decision-making.
• It helps to ascertain opportunity costs.
• They directly impact the profitability of the firm.

Total cost

Total cost is the total expenditure incurred by the producer to produce their goods. Total cost is also the summation of total fixed costs and total variable costs. Total cost is evaluated as follows:-

1. Total Cost = Cost per unit x Quantity Produced 2. Total Cost = Total Fixed Cost (TFC) + Total Variable Cost (TVC)

Total cost is defined as follows:

“Total cost is the cost which is incurred by the producer to produce a particular quantity of the commodity.”

Uses of the total cost-

• It helps in economies of scale as a producer needs a large amount of raw materials for large production;
• It helps in pricing policy.
• It helps in decision–making;

Average Cost

An average cost is an expenditure incurred by the producer, for producing each unit of the products. An average cost is the per-unit expenditure of the producer. The average cost is also the summation of average fixed cost and average variable cost.

The average cost is evaluated as follows:-

1. Average cost =Total Cost /Quantity produced 2. Average cost = Average fixed cost (AFC) + Average variable cost (AVC)

The average cost is defined as follows:-

“Average cost is the expense incurred by the producer to produce one unit of the total production.”

Uses of average cost-

• It helps to cut down excess expenditure, as per unit cost is calculated.
• It  helps in optimum utilization of resources;
• It helps in pricing strategy.

Marginal cost

Marginal cost is the expenditure incurred by the producer to produce an additional or an extra unit of the commodity. Marginal cost is the additional cost incurred for producing one extra unit after producing a certain amount of units.

MCn = TCn – TCn-1

Marginal cost is defined as follows:

“Marginal cost is the cost or expense incurred for producing an additional or an extra unit of a commodity.”

Uses of marginal cost-

• It helps in decision making
• It helps to determine costs for each commodity
• It helps in planning profits.

Opportunity Cost

An opportunity cost is an opportunity or choice that is let go of or sacrificed for an alternative choice. In economics, opportunity cost is the foregone production factor in business for an alternative production factor.

An opportunity cost is defined as follows:-

“An opportunity cost in business is the sacrificed option or factor of production for an alternative option or factor of production.”

Uses of opportunity cost-

• It helps in optimum utilization of business resources;
• It helps in decision–making;
• It helps in cost control.

So, that is all for today guys see you in our next blog. If you like our article please don’t forget to share with others & follow our Instagram page for your daily dose of Motivation.

Thank You,

Regards

Grooming Urban

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