COSTY THEORY AND

ESTIMATION
Unit - V
 COST CONCEPTS

• Cost
• Actual sacrifice involved in
performing an activity, or
following a decision or course
of action. It may be expressed as
the total of opportunity
cost (cost of employing resources in
one activity than the other)
 TYPES OF COST AND
DETRMINANTS OF COST
• Opportunity cost and actual
cost
–Opportunity cost
• It may be defined as the
expected returns form the
second best use of the
resources which are forgone
 TYPES OF COST AND
DETRMINANTS OF COST
• Opportunity cost and actual cost
–Actual cost
• It is the cost or expenditure
which a firm incurred for
producing or acquiring a good or
service.
 TYPES OF COST AND
DETRMINANTS OF COST
• Sunk cost
–A cost that has already
been incurred and which
cannot be recovered to
any significant degree
 TYPES OF COST AND
DETRMINANTS OF COST
• Business cost and Full cost
• Business cost
–Business cost include all the
expenses which are incurred to
carry out a business.
• Full cost
–It includes business cost,
opportunity and normal profit.
 TYPES OF COST AND
DETRMINANTS OF COST
• Explicit cost and Implicit cost
• Explicit cost
–Explicit cost are those cost which
fall under actual or business
costs entered in the books of
accounts. EX: Rent, Wages
• Implicit cost
–Implicit cost do not take the
 TYPES OF COST AND
DETRMINANTS OF COST
• Out of pocket cost and Book
cost
–Out of pocket cost
• The items of expenditure which
involve cash payments or cash
transfer to the outsiders of the firm
are known as out of pocket costs.
–Ex: Rent paid, wages and salaries
 TYPES OF COST AND
DETRMINANTS OF COST
–Book cost
• These cost which do not involve
any cash payments but a
provision is made in the books
of accounts in order to include
them in the profit and loss
account and take tax
advantages.
 TYPES OF COST AND
DETRMINANTS OF COST
–Marginal cost
• It is the addition to total cost due
to the addition of one unit of
output.
–Incremental cost
• It arises due to change in scale of
production, introduction of a new
product and replacement of a worn
 TYPES OF COST AND
DETRMINANTS OF COST
–Private cost
• Private cost is those which are incurred by an
individual/firm on the purchase of goods and
services from the market.
– Private cost = explicit cost + implicit cost
– Social cost
• The total cost to society of an economic
activity - the sum of the opportunity costs of
the resources used by the agent carrying out
the activity, plus any additional costs
imposed on society from the activity. It is the
 TYPES OF COST AND
DETRMINANTS OF COST
• Direct costs
–Direct costs are those which
have direct relationship with a
unit of operation like
manufacturing a product
organizing a process or an
economic activity.
 TYPES OF COST AND
DETRMINANTS OF COST
• Indirect cost
–Indirect cost are those which
have direct relationship with a
unit of operation like
manufacturing a product
organizing a process or an
economic activity.
 TYPES OF COST AND
DETRMINANTS OF COST
• Controllable costs
–Controllable costs are those
which can be controlled or
regulated through observation by
an executive and therefore they
can be used for assessing the
efficiency of the executives.
 TYPES OF COST AND
DETRMINANTS OF COST
• Non controllable costs
–The cost which cannot be
subjected to administrative
control and supervision are
called non-controllable costs.
• Ex: Depreciation.
 TYPES OF COST AND
DETRMINANTS OF COST
• Historical cost and replacement
cost:
–Historical cost of an asset refers
to the original price paid by the
management to purchase it in the
past.
–Replacement cost refers to the
cost that a firm incurs to replace
 Short run Total cost curves

COST OUTPUT RELATION IN

SHOR-RUN AND LONG-RUN

Short Run
Total Cost
Curves
Short run average cost curves
Short run average cost curves
COST OUTPUT RELATION IN
SHOR-RUN AND LONG-RUN
• Long run costs

• The long run period is long enough

to enable a firm to vary all its
factor inputs. In long run, a firm is
not tied to a particular plant
capacity. It can move from one
plant capacity to another whenever
Long run costs