MANAGERIAL

ECONOMICS

COST ANALYSIS
( WITH SHORT RUN)
FACULTY:-Ms.NISHA JINDAL PRESENTED BY:-PANKAJ BHARDWAJ
 WHAT IS COST

 The term of cost refers to the amount of resources given

up in exchange of some of goods or services. The
resources so given up are always expressed in terms of
money.

 A cost is the value of money that has been used up to

produce something. In Economics, a cost is an alternative
that is given up as a result of a decision.

 Examples:- Rent to landlord, wages to labour, Interest to

the capital, raw material, power, fuel , transportation etc.
 TYPES OF COST

SUNK COST AND FUTURE COST

Sunk cost:- A sunk cost is an expenditure that has been

incurred and cannot be recovered. All past and actual cost
are regarded as sunk cost. For example: sunk costs in the
form of research & development and intellectual property
(patents etc.) for the product.

Future cost:-Future cost is based on forecasts. it is relevant for

most managerial decisions which are generally forward
looking. Future costs involve forecasting for control for
expenses, appraisal of capital expenditures, decisions on
new projects as well as expansion programmes.
 CONT..

DIRECT COST AND INDIRECT COST

Direct cost:-Direct cost is one which can be easily and

directly identified or attributed to a particular product,
operation or plant. For example, the use of raw
material, labour and machine for production.

Indirect cost:- Indirect cost is that cost which is not

accurately traceable to any plant , department or
operation. Electric power for operating machines,
stationary and other office expenses, depreciation on
building , decoration etc are some examples of indirect
cost.
MONEY COST AND REAL COST

Money cost:-when production cost is expressed in terms of

monetary units, it is called money cost. It means aggregate
money expenditure incurred by a producer on the purchase.
procurement and processing of inputs. Money cost is widely
used in the theory of production. It is the sum of explicit and
implicit cost.

Real cost:-Real cost refers to the payments made to factors of

production to compensate for disutility's of rendering their
services. It is computed in terms of the toil, trouble, pain
and discomfort involved for labour, when it is engaged in
production.
 CONT……

EXPLICIT COST AND IMPLICIT COST

Explicit Cost :-Explicit cost is the monetary payment made by the

entrepreneur for purchasing or hiring the services of various
productive factors, which do not belong to him. This cost is in
the nature of contractual payment and includes rent for land,
wages to the labour , interest on capital, payments for raw
materials, advertisement, power etc.

Implicit Cost:- Implicit cost of production as “cost of self-owned,

self employed resources that are frequently overlooked in
computing the expenses of a firm”. it is the amount that
could be earned in the best alternatives use of the
entrepreneur's money and time
 CONT…..

ACTUAL COST AND OPPORTUNITY COST

Actual cost:-Actual cost refers to the actual expenditure incurred

for acquiring or producing a good or services. such cost is
popularly known as absolute cost or outlay cost. Actual
wages, rent or interest paid are some examples of absolute
cost.

Opportunity cost:- Opportunity cost of any input is the next best

alternatives use that is sacrificed by its present use. The
opportunity cost of using any factor is what is currently
foregone by using it. Like example, the student ,the cost of
seeing a movie may be the book, whose purchase is
forgone.
 SHORT RUN COST

Short-run costs are those that have a short run

implication in the process of production. Such costs
are made once e.g., payment of wages, cost or raw
materials, etc. Such costs cant be used again and
again.

short Run Cost varies with output.

 SHORT RUN OUTPUT
RELATIONS

The short-run Output relations is composed of two major

elements

(i) Total fixed cost : It remains fixed (plant, building) in the

short run.

(ii) Total Variable cost: It varies with the varies in the

output

TC = TFC + TVC
 TOTAL FIXED COST
(TFC)

In short period, some factors are fixed , while others are

variable. Cost incurred on the fixed factors like
machinery, building, etc is called fixed cost. In other
words, fixed cost is the cost of employing fixed factors
in the short period. Fixed cost is a “fixed” amount,
which must be incurred by a firm, whether when the
output is large, small or zero. Example salaries to
managerial and administrative staff, rent, insurance
charges, property taxes are some example of fixed cost.

Fixed cost curve is a horizontal straight line parallel to

X-axis. the curve shows that the TFC remains same at
different level of output, even if output is zero
 TOTAL VARIABLE
COST

Variable cost is incurred on the employment of variable factors

like raw materials, direct labour, power, fuel, transportation,
sales commission, depreciation charges associated with
wear and tear of assets, etc. it varies directly with output.

TVC curve starts from the origin indicating that when output is
zero, variable cost is nil. Further, the variable cost has rising
trend from left to right. Total variable cost is graphically
shown in fig:-
 TOTAL COST

Total cost to a producer for the various level of output is the sum
of the total fixed cost and total variable cost.

TC = TFC + TVC

Total cost will change with the change in the ratio of output to
input. Total cost is positively sloped curve. It has broadly an
inverse “s” shape. It increases with an increase in the level
of output, as total costs depends very much on TVC,
whereas TFC remains constant.
 SHORT RUN AVERAGE
COST

 Average cost is calculated by dividing the total cost

with total no. of quantities.
 AC = TC = TFC + TVC

Q Q

= TFC + TVC

Q Q

= AFC + AVC
 AVERAGE FIXED COST

Per unit fixed cost of producing a commodity is called the

average fixed cost. It is calculated by dividing the total fixed
cost by the number of units of commodity produced.

FORMULA:- AFC = TFC / Q . “Q”= Total output

Example:- kapil khurana incurs an expenditure of Rs.2oooo/- on

installing a stone cutter machine. If cuts 1oooo pieces of
stones during the Ist month of installation, the average
fixed cost will be Rs.2oooo/1oooo = Rs.2. when the pieces
he cuts increases to 2oooo, the average fixed cost falls to
Rs.1 . Thus, level of output increases, the AFC Falls.
 AVERAGE VARIABLE
COST

Per unit variable cost of producing a commodity is called

the average variable cost . It is computed by dividing
total variable cost by the number of units produced.

Formula:- AVC = TVC / Q

AVC curve is U-shaped due to law of returns.

AVERAGE TOTAL COST

Average total cost is the sum of the average fixed cost and
average variable cost. Alternatively, ATC is computed y
dividing Total cost by the number of units of output.

Therefore, ATC = AFC + AVC

Average cost is also known as unit cost, as it is cost per unit

of output produced. It is derived from the total cost curve
in the same way as the AVC curve is derived from TVC curve.
 MARGINAL COST

Marginal cost is the addition to total cost required to produce

one additional unit of a commodity. It is measured by the
change in total cost resulting from a unit increase in output.

MC = TC n – TC n-1

It means that marginal, cost of ‘n’ units of output (MCn) can be

obtained by subtracting the total cost of production ‘n-1’
units (TCn-1) from the total cost of production of ‘n’ units
(TCn).

Example, if the TC of producing 5 units of a commodity is Rs.100

and that of 6 units is Rs.110, then the marginal cost of
producing 6th unit of commodity is Rs.110- Rs.100 = Rs.10.
 SOME SOLVED
QUESTIONS
No. of units Total cost Marginal cost Average Cost
solved
1 15 15 15
2 28 13 14
3 39 11 13
4 52 13 13
5 70 18 14
6 96 26 16

Marginal cost = TCn – TCn-1

Average cost = Total cost / Q
UNITS TC TFC TVC AFC AVC ATC MC

O 60 60 - - - - -

1 90 60 30 6o 30 90 30

2 100 60 40 30 20 50 10

3 105 60 45 20 15 35 5

4 115 60 55 15 13.75 28.75 10

5 135 60 75 12 15 27 20

6 180 60 120 10 20 30 45