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Production costs

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The production costs are those costs that are a vital part to keep a number of services or projects.

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What are production costs?

The production costs are those costs that a company must pay to maintain an enterprise, regardless of its type. Its characterization is one of the requirements to know the scope of the profits of a company.

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  • Definition
  • Production cost function
  • goals
  • Elements of production costs
  • Classification
  • How production costs are calculated
  • Importance
  • Examples

Definition

In economics , it is important that a person has knowledge of the profits or benefits that a company brings. These benefits, also called gross profits , can be identified by measuring the profits from the sale of a product versus the expenses involved in maintaining the production of that product. The latter, which is what we call production costs , is what we will address today.

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Production cost function

To perceive the profit margin of a company, it is necessary to determine its cost of production . Why? Because this factor will always be the object of comparison with its counterpart, income. With the income we determine the total profits that follow after the sale of a product . By comparing this factor with the cost of production of the product, the entrepreneur or economist can determine his net profit margin, that is, how much gross income he obtains if he subtracts the cost of producing that product.

goals

The ultimate goal of determining (or plan) costs of production of one product are on the delimitation of the necessary payments to purchase a number of products. All this in order to previously know the scope of the profits that can be obtained from the sale of the product itself.

Elements of production costs

To do the planning of this factor, it is important to know its elements or components. Among these are:

  • Materials
  • Workforce
  • Indirect manufacturing costs

Classification

A somewhat hasty classification of production costs could place them in two different categories:

  • Variable or direct costs, such as raw materials , direct labor or supplies necessary for the creation of the product , by way of example .
  • Fixed costs, which would include everything related to investment, investment at the research and study level , the payment of legal advisors, administration, management, among others.

How production costs are calculated

The calculation of production costs can go through several ups and downs. Once all the necessary elements have been estimated , all the components that we have conceived up to now, it is worth asking: And now what do I do with all this?

For practical purposes it is understood that this process deals with many variables, the calculation would consist of the sum of all fixed production costs (example: workers’ salary) plus variable production costs (example, the determination of the cost of raw material with which employees work). The sum of all the latter results in a result that will be divided by what is projected to be won in total. The result of such a division finally gives the value of the cost of production.

Importance

It should not be surprising, then, that the importance of production costs lies in the ease with which it allows to identify the scope of profits to which a company can aspire and if the costs of its venture or project do not become too high for the profits. that you aspire to obtain. Its proper calculation is, then, a task that requires a lot of precision.

Examples

As an example, and how such a process serves future businessmen or entrepreneurs, as well as any student of economics, the following case will be presented in order to serve as a model.

Imagine, for example, the case of a businessman who aspires to start a business selling body creams. For this company, it has the participation of four employees trained for this work. Each would have a salary of $ 100 each (not counting, of course, the employer’s own salary, which would equal, say, about $ 135).

In order to stipulate the cost estimate necessary for the maintenance of his cream production, the entrepreneur calculates the fixed and variable costs that he has to pay. On the one hand (considering fixed costs) is the payment of salaries ($ 400), plus your own salary ($ 135), plus the rental costs of the business premises ($ 100). Among the variable costs would be, for example, the amount of the containers ($ 50), the creams already processed ($ 50), among other expenses that will not be taken into account in this example.

The sum of all these expenses would result in an amount of $ 735 in total. If the entrepreneur plans to sell about $ 200 worth of body creams, this amount would be divided by the above amount. In such a case, the unit production cost (that is, per unit of product) would equal about $ 3.67.

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