19-11-2012, 11:25 AM
Analysis of Costs
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Importance
Better cost management leads to maximization of profits. A firm that wants to maximize its profits should also focus on minimizing costs. Every good example is how Maruti Udyog Limited has posted a net profit of Rs 55 crore in the financial year 2001-02 compared to a loss of Rs147 crore in the previous financial year.
Types of costs
Opportunity Costs
Implicit and explicit costs
Economic costs
Marginal incremental and sunk costs
Direct and indirect costs
Fixed and variable costs
Opportunity costs
It can be defined as the cost of any decision measured in terms of the best alternative which has been sacrificed. Ex a person who has Rs 100 as his disposal can spend it on either of three options –having a dinner, going for a music concert, or for a movie. The person prefers going for a dinner rather than to movie and the movie over the music concert. Hence his opportunity cost is sacrificing the movie , the next best alternative once he goes for a dinner.
Implicit and explicit costs
Implicit costs are the value of fore gone opportunities that does not involve a physical cash payment.
Though implicit costs are not included in books of accounts , they do play an important role in a decision making process.
Explicit costs can be defined as the costs which involves actual payment to other parties.
Economic costs
Economic cost refers to the costs involved for all factors of production including those purchased from outside as well as those owned by the firm.
Its basically a normal payment for all the factors of production , including managerial and entrepreneurial skills and capital provided by the owners of the firm.
Direct and Indirect Costs
Direct costs are the costs that can be directly associated to the production of a given product-ex use of raw materials, labour input etc
Indirect costs are such expenses that can not be separated and directly attributed to individual units of production ex electricity charges, depreciation of plants and building
Fixed and variable costs
Fixed costs are those costs which do not vary with the changes in the output of a product, and has to be paid even if the firm’s level of output is zero.ex interest on borrowed capital, contractual rent,depreciation charges, salaries of top level management and others.
Variable costs are those costs that vary with the level of output.ex-payment of raw materials, wages and salaries
Short run cost functions
Short run cost functions help in determining the relationship between output and costs in the
short run .
The short run average total costs(SRATC) and average variable costs are slightly U shaped.
The marginal cost(MC) curve intersects both the average variable cost curve and short run average total cost curve at their lowest point and from below.