MANAGERIAL ECONOMICS- CHAPTER 5- ESSENTIALS OF PRODUCTION AND PRODUCTION COSTS

Production Process
When a company creates products to sell to consumers, they typically use a strict
production process. This involves following various steps, from the input stage of
product creation to the output stage of selling to consumers. The right production
process for each organization typically depends on the technology available, how
many products the company needs to produce and organizational structure.

A production process is a method of using economic input or resources, like labor,

capital equipment or land, to provide goods and services to consumers. The
production process typically covers how to efficiently and productively
manufacture products for sale to reach customers quickly without sacrificing the
quality of the product. There are many different types of production processes
businesses can follow, according to their manufacturing goals, production
numbers and technology tools or software systems.
Types of production
The different types of production businesses can implement depending on their
product and organizational needs include:
1. Mass production
In mass production, employees continuously produce the same items. Team
members are typically split up into different workstations for everyone to use at
once. Each workstation typically represents one material or addition to a product.
Once the product gets to the end of the line, it's fully complete and ready to
deliver to the customer. As one part of the product is being worked on, another is
operating as well, which makes the process more efficient and productive.
2. Craft production
This is a non-automated process that's usually used on products that need
personal care and attention in order to deliver a quality product to the consumer.
Many companies use this type of production when customers order customized
products that include certain unique colors, shapes, patterns or words on the
design.
3, Batch production
Organizations typically use batch productions when they need to produce several
groups of items. When this occurs, employees work in subsections of each group
to complete different sections of certain batches. It operates similarly to a mass
production process, but instead of creating just one product, the organization
builds several different products and splits them into various groups, also known
as batches.
3. Job production
When creating lower-demand products, most organizations follow a job
production process. This involves building a single item all at once, rather than
splitting into groups that work on different parts of the product.
Since customers typically order this product less often than others, employees
may briefly move away from their position in the mass production process and
complete the entire automated system of building this product at once before
returning to other ongoing tasks. This process usually only applies to items that
have significantly low demand or are unique finds for consumers.
4. Service production
This process entails automating a certain service to customers. You can provide
personalized services offered on machines that allow customers to press buttons
to request and receive assistance. Another service production method is technical
support. If customers experience issues with one of the company's technical
products and need additional guidance on how to use them, they can quickly
access resources and materials to answer their questions if the support team is
currently unavailable.
5. Mass customization
This type of process is a mass production line that creates products unique and
customized according to consumers' needs. The customer may have the option to
select certain customization options from a list of colors, shapes or patterns.
When they select certain options, the mass customization process completes a
unique and automated process for each individual item.
Elements of a production decision
An important part of being a manufacturing manager is making big-picture
production decisions that impact the efficiency levels of the creation and sales of
products. The key elements involved in making production decisions include:

● Amount to produce

Review the order number of your products to determine your production method
and creation process. If you realize you need to produce large bulks of the same
product at once, you may follow a mass production method. You may need to
practice a different and more intricate production process if you're manufacturing
several different unique products at once.

● Whether to move forward with mass production

There may be some products or materials that require closer design or creation to
provide unique and personalized features or elements to the product that you
may have promised to consumers. Because of this, consider whether mass
production or manufacturing is the best option to pursue. Instead, you can
strategize a non-automated process that takes longer for product designers to
create but provides them with a hand-crafted, customized final product.

● Technology to use

Selecting the right production process can often depend on the type of
technology you have available. For instance, if you have a large bulk of the same
product orders, you may not be able to follow a clear mass production structure if
you don't have the proper technology to track, sort or build these products
accordingly. Think about the technology you have available and the approved
budget you can use to buy the necessary systems and items to use the production
process needed.

● Input combinations to use

Input combinations are the labor and capital methods that go into manufacturing
a product. Before deciding how many products to produce and your method for
building them, you must make sure the material costs and the payment of
employees equal a fair enough amount. This ensures you're still earning enough
revenue from the products to make a decent and financially stable profit, which
helps the organization function proper
PRODUCTION COSTS
Costs of production refer to all the expenses incurred in the process of creating
and delivering a product or service. These expenses can include raw materials,
labor, equipment, rent, and marketing costs. In simple terms, it is the sum of all
expenses necessary to produce and sell a product or service.
The costs of production are the costs that a company incurs when it produces
goods or services, sells those goods or services, and delivers them to its
customers.

Production costs are those costs incurred when a business manufactures goods.
The three main categories of costs that comprise production costs are noted
below. Once these costs are incurred, they are assigned to units produced, and
then charged to the cost of goods sold once the goods are sold.

● Direct Labor Costs

Direct labor consists of the fully burdened cost of all labor directly involved in
the production of goods. This usually means those people working on
production lines or in work cells. Other types of production labor are recorded
within the category of factory overhead costs.

● Direct Material Costs

Direct materials consist of those materials consumed as part of the production

process, including the cost of normal scrap that occurs as part of the process.

● Factory Overhead Costs

Factory overhead consists of those costs required to maintain the production

function, but which are not directly consumed on individual units. Examples are
utilities, insurance, materials management salaries, production salaries,
maintenance wages, and quality assurance wages.

Types of production costs

There are many types of production costs:

● fixed cost- the costs that don’t change when production output changes.
A company has to pay fixed costs whether the output level increases or
decreases. Fixed costs are also costs that a company incurs when the
output level is zero. The higher the fixed costs are in a company, the
higher the output must be for the business to break even.
Capital can be a fixed factor of production that can make a company incur
consistent amounts of fixed costs in the short run.

Other examples of fixed costs include:

1. Maintenance costs of a factory or an office building.
2. Rent.
3. Interest on loans.
4. Advertising.
5. Business rates.

● variable cost- Variable costs are the costs that change when production
output changes. Variable costs relate directly to the production or sale of
a product. The marginal cost of an extra output unit determines the
variable cost as more variable inputs are integrated into production. If a
firm increases the production of its products, which it also needs to
 package, its variable costs will rise. This is because the firm will require a
higher amount of packaging for the increased production output.

Other examples of variable costs include:

1. Wages.

2. Basic raw materials (such as wood, metal, iron.)

3. Energy costs.

4. Fuel costs.

5. Packaging costs.

● total costs- Total cost is the aggregate cost incurred by a company.

A company’s total costs are made up of the fixed costs and variable costs
added together, as shown in this formula:
TC= FC+VC
When a company produces more and increases its output, the company’s
total cost of production will increase.
Costs of production example
Consider this simple table to understand a basic costs overview and their
calculation process.

OUTPUT FC VC TC
UNITS (IN PESO) (IN PESO) (IN PESO)
50 10,000 15,000.00 25,000.00
100 10,000 20,000.00 30,000.00
150 10,000 25,000.00 35,000.00
200 10,000 30,000.00 40,000.00
 250 10,000 35,000.00 45,000.00

● average cost- We calculate the average cost of production (also known as

the unit cost) by dividing the firm’s total cost of production by the
quantity of output it produced. Thus,

AC= TC/LEVEL OF OUTPUT (Q)

OUTPUT FC VC TC AC
UNITS (IN PESO) (IN PESO) (IN PESO) (IN
PESO)
50 10,000 15,000 25,000 500
100 10,000 20,000 30,000 300
150 10,000 25,000 35,000 233
200 10,000 30,000 40,000 200
250 10,000 35,000 40,000 180
● marginal cost- In economics, the marginal cost is the change in total
production cost that comes from making or producing one additional unit.
To calculate marginal cost, divide the change in production costs by the
change in quantity. The purpose of analyzing marginal cost is to
determine at what point an organization can achieve economies of scale
to optimize production and overall operations. If the marginal cost of
producing one additional unit is lower than the per-unit price, the
producer has the potential to gain a profit.

Marginal Cost Formula

Marginal cost is calculated as the total expenses required to manufacture
one additional good. Therefore, it can be measured by changes to what
expenses are incurred for any given additional unit.
 Marginal Cost = Change in Total Expenses / Change in Quantity of Units
Produced

MC= Marginal Cost Formula

Marginal cost is calculated as the total expenses required to manufacture
one additional good. Therefore, it can be measured by changes to what
expenses are incurred for any given additional unit.

Marginal Cost = Change in Total Expenses / Change in Quantity of Units

Produced

MC= in Total Expenses/ in Quantity of Units

Marginal cost also has an impact on average cost. When marginal cost is
less than average cost, the production of additional units will decrease
the average cost. When marginal cost is more, producing more units will
increase the average. cost per unit.
MC LESSER THAN AC= The production of additional unit will decrease the
average cost
MC GREATER THAN AC= Producing more units will increase the average cost pr
unit.