TYPES OF COSTS
:-Production is the result of services rendered by various factors of production.The producer or firm has to make payments for this factor services. From the point of view of the factor inputs it is called ‘factor income’ while for the firm it is ‘factor payment’, or cost of inputs.Generally, the term cost of production refers to the ‘money expenses’ incurredin the production of a commodity. But money expenses are not the only expensesincurred on the production of a commodity. But there are number of services andinputs such as entrepreneurship, land, capital etc. which are offered by anentrepreneur without changing any price or receiving any payment for them. Whilecomputing the total cost of production, allowance should be made for such expenses.It is therefore essential to have clean understanding for the different types of cost.There are several types of costs that a firm may consider relevant under various circumstances. Such costs include future costs, accounting costs, opportunitycosts, implicit costs, fixed costs, variable costs, semi variable costs, private costs,social costs, common costs, etc. For the purposes of decision-making, it is essential toknow the fundamental difference between the main cost concepts along with theconditions of their use in decision-making.
1. Actual (or, Acquisition or, Outlay) Costs and Opportunity (or, Alternative)Costs. Actual costs are the costs which the firm incurs while producing or acquiring a good or a service like the cost on raw material, labor, rent, interest, etc.The books of account generally record this information. The actual costs are also called the outlay costs or acquisition costs or absolute costs. On the other hand;opportunity costs or alternative costs are the return_ from the second-best use of the firms resources which the firm forgoes in order to avail of - the return from the best use of the resources.Suppose that a businessman can buy either a lathe machine or a paper pressing machine with his limited resources and he can earn annually Rs.50,000 and Rs.70,000 respectively from the two alternatives. A rational businessman will certainly buy a paper-pressing machine which gives him a higher return. But in the process of earning Rs.70,000, he has forgone the opportunity to earn Rs.50,000 annually from the lathe machine. Thus, Rs.50000 is his opportunity cost or alternative cost. The difference between actual cost and opportunity cost is called economic rent or economic profit.For example, economic profit from paper-pressing machine in the above case is Rs.70,000-Rs. 50,000 = Rs.20,000. As long as economic profit is above zero, it is rationalto invest resources in paper-pressing machine.
2. Sunk Costs and Outlay Costs.
mean the actual expenditure incurred for producing or acquiring a good or service. These actual expenditures are recorded inthe books of account of the business unit, e.g., wage bill. These costs are also known as actual costs or absolute costs.
are the costs that are not altered by a change in quantity and cannot be recovered; e.g., depreciation. Sunk costs are a part of the outlay costs. However,most business decisions require cost estimates that are essentially incremental and notsunk in nature.
3. Explicit (or, Paid-out) Costs and Implicit (or, Imputed) Costs: Explicit costs are those expenses which are actually paid by the firm (paid-out costs).These costs appear in the accounting records of the firm. On the other hand,implicit or imputed costs are theoretical costs in the sense that they go unrecognized bythe accounting system. These costs may be defined asthe earnings of thoseemployed resources which belong to -the owner himself: For example, the interest payment on borrowed funds is an explicit cost and enters the accounting record,-butthe amount of interest which the employer could have earned (and which he forgoeswhen he uses his own capital in his firm) is...
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