Building A Total Cost Equation: A Real-Life Case
In the following case study, you will be asked to apply your knowledge of total cost by building a cost equation from scratch all on your own. This will involve identifying different types of costs and then building a cost equation.
Case:
You are an economics student at ABC College. As part of your duties in the Economics Student Club, you are assigned a task from a professor to help out a small ice cream store near the school. As he gives you the assignment, he explains to you, "This ice cream store has been here for ages and is an important component to the College campus. After 23 years, the old owner, Jack, retired and let his son, Matt, operate the shop. Unfortunately, Matt is not familiar with the cost concepts of economics and has a hard time projecting his profit at projected sales levels. Can you help him out?"
Task:
- Separate fixed costs from variable costs.
- Build the cost equation.
- Determine the total profit generated if sales are 2,000 ice cream cones per year. Each cone sells for $5.
Cost information:
| Cost Item | Additional information | Variable or Fixed? |
|---|
| Ice Cream Cones | $10 for 100 cones | |
| Store rent | $200 per month | |
| Cream and Sugar Mix | $50 for 100 scoops-worth | |
| Business license | $200 per year | |
| Part-time helper salary | $200 per month | |
Solution:
See below.
| Cost Item | Additional information | Variable or Fixed? |
|---|
| Ice Cream Cones | $10 for 100 cones | Variable, 10/100 = $0.10 per unit |
| Store rent | $200 per month | Fixed, 200*12 = $2,400 per year |
| Cream and Sugar Mix | $50 for 100 scoops-worth | Variable, 50/100 = $0.50 per unit |
| Business license | $200 per year | Fixed, $200 per year |
| Part-time helper salary | $200 per month | Fixed, 200*12 = $2,400 per year |
Total variable cost per unit = 0.10 + 0.50
=$0.60 per unit
Total fixed costs per year = 2,400+2,400+200
=$5,000 per year
Cost equation:
Total cost = Units sold * Variable cost per unit + Fixed costs
= Units sold * 0.60 + 5,000
Profit Projection
Total Profit = Units sold * Selling price - Total Cost
= Units sold * Selling price - (Units sold * Variable cost per unit + Fixed costs)
= 2,000 * 5 - (2,000*0.60 + 5,000)
=$3,800
The answer is thus $3,800.
FAQs
What is the total cost formula? First, you have to identify the total number of units produced (i.e. the number of product units manufactured throughout a specific time period). The formula for the total cost is as follows: Total Cost of Production = (Total Fixed Cost + Total Variable Cost) x Number of Units.
What is the total cost answer? ›
Total cost refers to the overall cost of production, which includes both fixed and variable components of the cost. In economics, the total cost is described as the cost that is required to produce a product.
What is the cost equation? ›
The general form of the cost function formula is C ( x ) = F + V ( x ) where F is the total fixed costs, V is the variable cost, x is the number of units, and C(x) is the total production cost.
What is the average cost in mathematics? ›
Average Cost, also called average total cost (ATC), is the cost per output unit. We can calculate the average cost by dividing the total cost (TC) by the total output quantity (Q). Average Cost equals the per-unit cost of production, which is calculated by dividing the total cost by the total output.
What are the 3 cost formulas? ›
COST ACCOUNTING FORMULAS & IMPORTANT
- Prime Cost = Direct Material + Direct Labor.
- Total Production Cost = Prime Cost + FOH Cost.
- Conversion Cost = Direct Labor + FOH Cost.
- Raw Material Consumed = ...
- Manufacturing Cost = Prime Cost + FOH Cost {Same as Sr. ...
- Cost Of Goods Manufactured = ...
- Goods Available for Sale =
Cost Price Formula = {100/(100 – Loss%)} × SP (Selling Price). These formulas provide methods for determining the cost price based on different scenarios involving profit, loss, profit percentage, and loss percentage.
How to calculate full cost? ›
Full cost = direct costs + indirect costs + variable costsHere are the steps to calculate full cost accounting:
- Calculate the direct costs. ...
- Calculate the indirect costs. ...
- Calculate any variable costs. ...
- Add the direct, indirect and variable costs together.
Students also viewed
- Average Total Cost (ATC) = Total Cost / Q.
- Average Variable Cost (AVC) = Total Variable Cost / Q.
- Average Fixed Cost (AFC) = ATC - AVC.
- Total Cost (TC) = (AVC + AFC) X Output (Which is Q)
- Total Variable Cost (TVC) = AVC X Output.
- Total Fixed Cost (TFC) = ...
- Marginal Cost (MC)= ...
- Marginal Product (MP)
Average cost (AC), also known as average total cost (ATC), is the average cost per unit of output. To find it, divide the total cost (TC) by the quantity the firm is producing (Q). Average cost (AC) or average total cost (ATC): the per-unit cost of output.
What is cost calculation? ›
cost calculation is the process of determining the cost of a product or service. Costs can be broken down into two categories, direct and indirect. direct costs are those that are associated with the production or purchase of a good or service.
Cost price formula = {100/(100 + Profit%)} × SP. Formula 4: The formula using loss percentage and SP is given as, Cost price formula = {100/(100 – Loss%)} × SP. Indulging in rote learning, you are likely to forget concepts.
Why do we calculate costs? ›
Calculating cost price is an absolutely essential step in properly pricing inventory for retail or wholesale distribution. When you determine cost price, you'll need to consider many data points, including the cost of labor, components and parts, tools, marketing costs, and overhead.
What is the formula for total cost? ›
Fixed costs (FC) are costs that don't change from month to month and don't vary based on activities or the number of goods used. The formula to calculate total cost is the following: TC (total cost) = TFC (total fixed cost) + TVC (total variable cost).
How to calculate total fixed cost? ›
To calculate your fixed costs, add up all your expenses that remain constant regardless of production volume.
How to find the cost of two items with the total cost? ›
The sum of both costs forms the unit price. The total cost of a series of items is the multiplication of the total units bought by the unit price. To calculate the unit price based on the total cost, one must simply divide the total cost by the items bought.
What is the formula for TR? ›
The formula to calculate total revenue is: TR = Q x P … where TR – Total Revenue, Q – Quantity of sale (units sold), and P – Price per unit of output.
What is the formula for ATC? ›
ATC = TC / Q
This concludes the topic on Average total cost formula, which is a very important concept for making pricing decisions in a business.
What is the formula for TVC? ›
Total variable cost= total output quantity produced X variable cost of output per unit is the total variable cost formula.
