In the production of goods and services, there is always a value exchanged for the manufacturing process to take place.
These values always inform the money called “Costs“
What is the cost?
This can be defined as the total amount of money incurred in the production of goods and services. This can also be referred to as the total amount of money spent on the availability of a product from the state of consumption.
Example
Technicians spend $500 to produce drones that can be controlled themselves without human disorders in them.
The picture highlighted above is the cost of production
Explanation: Without the help of this money, he will not be able to buy the material needed for the production of drones.
Therefore, he clarifies that costs are the amount of value issued in production.
I hope you have understood the true meaning of costs and how they should be defined. In the section below, we will discuss the type of cost registered with their real definition.
Various production costs that we have in business theory you should know about
In the information below, I have detailed various types of money spent in production with complete definitions. Let’s start.
1. Fix costs
This is defined as stable production costs at different production phases. This type of cost does not increase in amount does not diminish.
An example is this type of cost is “rent“
Explanation:
1. When a home payment is made, it cannot be increased or reduced before the time contribution to make another payment.
2. When $100 is paid by you to the owner of your home to rent an apartment that only consists of you. Even though you invite more than 20 individuals to your apartment, the price of the apartment will still have not changed.
In economic studies, the costs are fixed with formulas;
FC = TC – VC or. AFC X Q.
Note: Wherever you see “Q” in the business formula, it is used to show the term “quantity“. Is that clear?
2. Variable costs
This is only defined as a production cost that varies with output movements. That is, when the output of an organization increases, variable costs also increase. And also decreases when the output decreases.
An example of variable costs is the material used in producing certain commodities, as the use of cola to make soft drinks.
Explanation:
When companies like Pepsi spend $2000 to provide 80,000 colas to produce 2,000,000 pieces of Pepsi soft drinks.
Now, if they want to produce 3,000,000 Pepsi drinks. They need to spend around $3000 to get 120,000 cola pieces.
In this case, this shows the existence of variable costs when the number of colas used is increasing with the number of pups produced.
The formula used for the calculation of these provisions is:
VC = TC – FC or AVC X Q
3. Total costs
This means the addition of variables and fixed costs. This can also be referred to as the total production of output.
This type of cost only shows the whole money spent on the production of goods.
Explanation:
When VC is $200 and FC is $80, then the total cost will be $280.
We can get TC just by adding two shared production costs.
The formula used for calculating the total money spent on production is
TC = FC + VC or AC X Q
4. Average cost
AC can be defined as the cost of production per unit output. It is also referred to as a single-product manufacturing unit. This type of cost only measures the midpoint of the total money spent on goods and production services.
AC is grouped into three forms of
i) total average cost
This is the division of all costs divided by the amount used.
Formula: ATC = TC / Q
Note: AC and ATC present the same value in calculations i.e
ii) average fixed costs
This is calculated to divide the amount specified by fixed costs.
Formula: AFC = FC / Q
iii) average variable costs
This is referred to as the type of production costs that occur at each per unit of variable costs.
Formula: AVC = VC / Q
5. Marginal cost
This can be defined as the addition of money issued in the production of goods and services.
Formula: T2 – T1 / Q2 – Q1
Look at this business theory that is closely related to this topic, namely;
A. Opportunity costs
This is defined as an action on its other costs to reach a certain one. Or, this is the method of choosing options between two available choices.
Example:
An industry based on car production is to carry out two projects
i) Create a car model
ii) Update old car models with current features.
These two projects, it has a certain amount for each. Because of the lack of funds, the industry decided to invest the capital available for the creation of new cars rather than updating the old ones.
In that case, the company has chosen one of two available options.
That’s the actual opportunity cost.
Table representation of production costs
The money spent on the production of goods and services can be represented in two ways, namely;
- Tabular representation
- Graphic representation
Here, we will show our production costs through the Tabular Method
Q FC VC TC AC AFC AVC MC
0 10 0 10 0 0 0 –
1 10 8 18 18 10 8 8
2 10 10 20 10 5 5 2
3 10 11 21 7 3 4 1
4 10 14 24 6 3 4 3
5 10 15 25 5 2 4 1
The reason why production costs must be studied in business
Seeing the form where production costs occur, we can see that it explains the level of difference in costs at each stage of production.
Below, I will highlight the reason why this expenditure theory is studied in the business world.
1. Improve project management
2. Getting expenses estimates
3. It is used as a price determinant
4. Representation of data costs is not possible without research
5. This study helps resolve cost errors
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