Presentation on

COST ANALYSIS

B
Y
N. DURGA CHAITANYA PRASA
Asst. Professor, DMA, SITE

COST ANALYSIS

WHAT IS COST
Cost refers to the amount of expenditure
incurred in acquiring some thing
The expenditure incurred to produce an
output or provide service
Thus the cost incurred in connection
with raw material, labour, other heads
constitute the overall cost of production
A managerial economist must have a
clear understanding of the different cost
concepts for clear business thinking and
proper application
Output is an important factor which
influences the cost

COST INPUT OUT

RELATIONSHIP
C ( S , O, P, T )

Where
C= Cost
S= Size of Plant / Scale of operation
O= Output level
P= Prices of inputs
T= Technology

COST CONCEPTS
Opportunity Costs and Outlay Cost
Explicit and Implicit/ Imputed Cost
Historical Cost and Replacement Cost
Short Run and Long run Costs
Out of Pocket and Book Costs
Fixed Cost and Variable Costs
Past and Future Costs
Traceable Cost and Common Costs
Avoidable Costs and Unavoidable Costs
Controllable Cost and Uncontrollable Cost
Incremental Cost and Suck Costs
Total, Average and Marginal Costs
Accounting and Economic Costs

COST CONCEPTS
Opportunity Costs and Outlay Cost
Out lay costs, also known as actual costs or
absolute costs. These are the payments made
for labour, material, plant, transportation etc.
All these are appearing in the books of
accounts.
Opportunity cost implies the earning foregone
on the next best alternative has the present
option been undertaken
0pportunity costis the cost of anyactivity
measured in terms of the value of the next
best alternative forgone (that is not chosen). It
is thesacrificerelated to the second best
choice available to someone, or group, who has

COST CONCEPTS
Opportunity Costs and Outlay Cost
1. Thecost of an alternative that must be
forgone in order to pursue a certain action.
Put another way, the benefits you could have
received by taking an alternative action.
2. The difference in return between a chosen
investment and one that is necessarily passed
up. Say you invest in a stock and it returns a
paltry 2% over the year. In placing your money
in the stock, you gave up the opportunity of
another
investment
say,
a
risk-free
government bond yielding 6%. In this
situation, your opportunity costs are 4% (6% 2%).

COST OUTPUT RELATION IN SHORT

RUN
The short-run defined as
that period during which the

physical capacity of the firm is fixed and the output can be

increased only by using the existing capacity more
intensively.

The cost concepts, generally used in the cost

behaviour, are total cost, average cost and marginal
cost.
TC(Total Cost):

Total cost is the actual money spends to produce a

particular quantity of output.
Total cost is the summation of fixed and variable costs
TC = TFC+ TVC
TFC(Total Fixed Cost):
Up to a certain level of production total fixed costs, i.e the
cost of plant, building, equipment etc. remain fixed.
TVC(Total Variable Cost):
But the total variable cost i.e the cost of labour, raw
material etc with the variation in output.

COST OUTPUT RELATION IN SHORT

RUN
Average cost is the
total cost per unit. It
can be found out as follows

TC
Average Cost=
Q

The average fixed cost keeps coming down

as the production increases and the variable
cost will remain constant at any level of
output.
TVC
TFC

AFC=
Q
Q

AVC=
Marginal cost is the additional of product.
It can be arrived by dividing the change in
TC in total output.
total cost by the change

MC= Q

COST OUTPUT RELATION IN

SHORT
RUN
2
3
4
5
6
7
8

TFC

TVC

TC
2+3

60

60

60

20

80

60

63

60

AVC
AFC AC MC
TC
TC
3/1
4/1
2/1
TVC

TFC

-Q -Q Q
20

60

80

20

96

18

30

48

16

48

108

16

20

36

12

60

67

124

16

15

31

16

60

90

150

18

12

30

26

60

132

192

22

10

32

42

COST OUTPUT RELATION IN

SHORT
RUN
2
3
4

TFC

TVC

TC
2+3

0
1
2
3
4

60
60
60
60
60

20
63
48
67

60
80
96
108
124

5
6

60
60

90
132

150
192

COST OUTPUT RELATION IN

SHORT RUN
5
AVC
3/1
20
18
16
16
18
22

6
AFC
2/1
60
30
20
15
12
10

7
AC
4/1
80
48
36
31
30
32

8
MC
20
16
12
16
26
42

COST OUTPUT RELATION IN LONG

RUN
Long run is a period during which all inputs
are variable including the ones which are fixed
in short run.
In the long run firm can change its output
according to its demand.
Over a long period, the size of the plant can
be changed, unwanted building can be sold or
let out, and the number of administrative and
marketing staff can be increased or reduced.
In the long run the firm has to bring or
purchase larger quantities of all in inputs.
In the long term all input factors are
variable.

COST OUTPUT RELATION IN LONG

RUN
In the long run cost out-put relation therefore
implies the relationship between the total cost
and the total output.
In the long run, a firm has a number of
alternatives in regard to the scale of
operations.
In the long run average cost curve is
composed of a series of short-run average cost
curves.
In the short run average cost (SAC) curve
applies to only one plant whereas the long-run
average
cost
(LAC)
curve
takes
into
consideration many plants.
The long run cost-output relationship is

COST OUTPUT RELATION IN LONG

In this figure it is assumed
RUN that technological
there are only three sizes of plants-small,
medium and large, SAC1, for the small size, SAC2
for the medium size and SAC3 for the large size
plant.
If the firm wants to produce OP units or less, it
will choose the smallest plant. For an output
OQ, the firm will opt for medium size plant.

COST OUTPUT RELATION IN LONG

RUN
It does not mean that the OQ production is
not possible with small plant. Rather it implies
that cost of production will be more with small
plant compared to the medium plant.
For an output OR the firm will choose the
largest plant as the cost of production will be
more with medium plant. Thus the firm has a
series of SAC curves.
The LAC drawn will be tangential to the entire
families of SAC curves i.e. the LAC curve
touches each SAC curve at one point, and thus
it is known as Envelope Curve. And also known
as Planning Curve as it series as guide to an
entrepreneur in his planning to expand the