Let's talk about costs, cost formulas and what they are used for

2024 Author: Howard Calhoun | [email protected]. Last modified: 2023-12-17 10:16

In this article you will learn about costs, cost formulas, and also understand the meaning of their division into different types.

Costs are such monetary resources that need to be spent to carry out business activities. Analyzing the costs (cost formulas are given below), one can draw a conclusion about the effectiveness of the enterprise's management of its resources.

Such production costs are divided into several types, depending on how they are affected by changes in production volumes.

Permanent

Under fixed costs they mean such costs, the value of which is not affected by the volume of production. That is, their value will be the same as when the enterprise is operating in enhanced mode, fully using production capacity, or, conversely, during production downtime.

For example, such costs can be administrative or some separate items from the amount of general production costs (office rent, expenses for the maintenance of engineering and technical personnel not related to the production process), employee salaries, deductions to insurance funds, license costs,software and others.

It is worth noting that in fact such costs cannot be called absolutely constant. Still, the volume of production can affect them, although not directly, but indirectly. For example, an increase in the volume of products produced may require an increase in free space in warehouses, additional maintenance of mechanisms that wear out faster.

Often in the literature, economists often use the term "conditionally fixed costs of production".

Variables

Unlike fixed costs, variable costs are directly proportional to the volume of products produced.

This type includes raw materials, materials, other resources that are involved in the production process, electricity and many other types of costs. For example, when increasing the production of wooden boxes by 100 units, it is necessary to purchase the corresponding amount of material from which they will be produced.

The same costs can be of different types

Moreover, the same costs can be of different types, and, accordingly, these will be different costs. The cost formulas by which such costs can be calculated absolutely confirm this fact.

Take, for example, electricity. Light lamps, air conditioners, fans, computers - all this equipment that is installed in the office is powered by electricity. Mechanical equipment, machine tools and other equipment that is involved in the production of goods, products, tooconsumes electricity.

At the same time, in the financial analysis, electricity is clearly separated and refers to different types of costs. Because in order to perform correct forecasting of future costs, as well as accounting for current costs, a clear separation of processes depending on the intensity of production is necessary.

Total production costs

The sum of variable and fixed costs is called "total costs". The calculation formula is as follows:

Io=Ip + Iper, where:

IO - total costs;

F - fixed costs;

Iper – variable costs.

This indicator determines the overall level of costs. Its analysis in dynamics allows you to see the processes of optimization, restructuring, reduction or increase in the volume of production and management processes at the enterprise.

Average production costs

By dividing the sum of all costs per unit of output, you can find the average cost. The calculation formula is as follows:

Is=Io / Op, where:

Is – average costs;

Op - the volume of production.

This indicator is also called "the total cost of one unit of manufactured products." Using such an indicator in economic analysis, one can understand how efficiently an enterprise uses its resources to produce products. Unlike total costs, average costs, the calculation formula of which is given above, show the effectiveness of financing by 1unit of output.

Marginal cost

To analyze the feasibility of changing the quantity of products produced, an indicator is used that displays the cost of production per additional unit. It's called marginal cost. The calculation formula is as follows:

Ypres=(Io2 - Io1) / (Op2 - Op1), where:

Ypres – marginal cost.

This calculation will be very useful if the management personnel of the enterprise decided to increase production volumes, expand and make other changes in production processes.

So, after you have learned about costs, cost formulas, it becomes clear why economic analysis clearly separates the costs of the main production, administrative and management, as well as general production costs.