Fixed costs : Unaffected by changes in activity level over a feasible range of operations for the capacity or capability available. Example :insurance and taxes on facilities, administrative salaries, license fees, and interest costs on borrowed capital.
Variable Costs :• It vary in total with the number of the output unite .• Example : costs of material and labor used in a product or service, because they vary in total with the number of output units even though costs per unit remain the same.
More ways to categorize costs• Direct: can be measured and allocated to a specific work activity (Materials, Labor)• Indirect: difficult to attribute or allocate to a specific output or work activity (overhead, maintenance)• Standard cost: cost per unit of output, Standard costs play an important role in cost control and other management functions.
• Cash cost: a cost that involves a payment of cash.• Book cost: a cost that does not involve a cash transaction but is reflected in the accounting system. ( equipments, machines, Depreciation)• Sunk cost: a cost that has occurred in the past and has no relevance to estimates of future costs and revenues related to an alternative course of action. (money spend on a passport)
• Opportunity cost: the monetary advantage foregone due to limited resources. The cost of the best rejected opportunity. ( A student can work with 10,000$ Per year. or goes to the university for a year and spend 5,000$. Opportunity cost = 15,000$)• Life-cycle cost: the summation of all costs related to a product, structure, system, or service during its life span.
Cost Factor Site A Site B •5,000 cubic yards ofDistance 6 miles 4.3 miles asphaltMonthly rental $1,000 $5,000 •4 months (17 weekscost 5- days a week)Cost (Set up $ $15,000 $25,000 •Compare theRemoving)Equipment 2 sites??!!!!!Hauling $1.15/yd3 – $1.15/yd3 – •NOTE:expenses mile mile •Rent , Set up/ Removal and FlagFlag person No need $96/day person are Fixed costs ($8,160) BUT
BUT Hauling is variable costSite A = 6*5000*$1.15 = $345,000Site B= 4.3*5,000*$1.15 = $247,250Then the total cost is
2. Which is the better site? Site B3. How many cubic yards of asphalt does the contractor have todeliver before starting to make a profit if paid 8.05$ per cubic yard
Consumer and Producer Goods and ServiceConsumer Goods and Service: are thoseproducts or service that are directly used bypeople to satisfy their wants.Producer Goods and Service: are used toproduce consumer goods or service or otherproducers goods.
Goods and service are produced and desired because theyhave utility.Utility: The power to satisfy human wants and needs.Utility is most commonly measured in terms of value.Value: the price that must be paid to obtain the particular item.Necessities and Luxuries needs.
Price And Demand Engineering focusing on increasing the utility (value) of materials by changing their form or location. P : the price that must be paid D: is the quantity that must be demanded or purchased
The demand for a product or service is directly related toits price according to p = a - bD for 0 ≤ D ≤ a/b , a > 0, b > 0where p is price, D is demand, and a and b are constantsthat depend on the particular product or service. a = price axis intercept -b = slope
CompetitionPerfect Competition: occurs in a situation in which anygiven product is supplied by a large number of venders andthere is no restriction on additional suppliers entering themarket (never occurs in actual practice).Perfect Monopoly: exist when a unique product or service isonly available from a single supplier and that vender canprevent the entry of all others into the markets. (rarely occurs in the practice)
Total Revenue FunctionTotal revenue is the product of the selling price per unit,p, and the number of units sold, D. TR = p × DFrom: p = a – bDWe find:
Maximize Revenue TR a D b D 2 d 2TR 2 2b 0 dDThe demand at maximum revenue: ˆ a D 2b ˆ ˆ a2 a2 a2 Maximum TR a D b D 2 2b 4b 4b
Profit Profit = Total Revenue (TR) – Total Cost (CT) Total Cost (CT) = Fixed Cost (CF) + Variable Cost (CV) CT C F CVVariable Cost (CV) = Variable cost per unit (cv) × Demand (D) CV cv D Total Cost: CT C F cv D
Maximum profitScenario 1: Demand is a function of price ( p = a – bD)TR a D b D 2
Profit = Total Revenue (TR) – Total Cost (CT) and CT CF cv D and TR a D b D 2 Then Profit (a D b D 2 ) ( CF cv D) Profit b D 2 (a cv ) D CFTo find the maximum profit d ( profit ) a cv 2 b D 0 dD d 2 ( profit ) 2 2b 0 dD a cv Demand at Max profit: D * 2b
Breakeven points are found when Total Revenue = Total Cost. a D b D 2 CF cv D b D 2 (a cv ) D CF 0 The demand at breakeven: D 2 a cv a cv 4 b C F 1 2 2b
Example: A company produces an electronic timing switch. The fixed cost (CF) is 73,000$ per month. The variable cost per unit (cv) is 83$. The selling price per unit (p = 180$ – 0.02D).A. Determine the optimal volume of product?B. Find the volume at breakeven occurs, what is the range of profitable demand?Solution:A. a = 180, b = 0.02 a cv 180 83 D * 2,425 units per month 2b 2 0.02
B. Total Revenue = Total Cost. a D b D 2 CF cv D b D 2 (a cv ) D CF 0D 2 a cv a cv 4 b C F 1 2 2b D 97 97 4 0.02 73000 2 1 2 20.02 97 59.74 D1 932 unit per month 0.04 97 59.74 D2 3,918 unit per month 0.04 Range = 932 to 3,918 unit per month
Scenario 2: Price and Demand are independent TR = P × D
Example:Variable cost per service hour = 62$.Selling price = 85.56$ per hour.Maximum Hours per year = 160,000 hours.Fixed cost = 2,024,000$ per year.A. What is the breakeven point in hours and in % of total capacity? Total revenue = Total cost (breakeven) p D CF cv D CF D p cv 2024000 D 85,908 hours per year 85.56 62 85,908 D 0.537 53.7% of capacity 160,000
B. What is the % reduction In breakeven point (sensitivity) if: 1. Fixed cost reduced by 10%? 0.92024000 D 77,138 hours per year 85.56 62 85,908 77,318 D reduction 0.1 10% 85,908 2. variable cost per hour reduced by 10%? 2024000 D 68,011 hours per year 85.56 0.9 62 85,908 68.011 D reduction 0.208 20.8% 85,908
3. selling price increase by 10%? 2024000 D 63,021 hours per year 1.1 85.56 62 85,908 63,021 D reduction 0.266 26.6% 85,908Then the breakeven point is more sensitive to reduction invariable cost than fixed cost