Costs of the firm: definition and classification

The cost of a firm is the sum total of all costs for the production of a product or service expressed in terms of money. In the Russian practice, they are often called prime costs. Every organization, no matter what type of activity it does, has certain costs. The costs of the firm are the amounts that it pays for advertising, raw materials, rent, labor of workers, etc. Many managers try at the lowest possible cost to ensure the effective operation of the enterprise.

Let's consider the basic classification of costs of firm. They are divided into constants and variables. Costs can be considered in the short and long term. A long term in the end makes all costs variable, because during this time, some large projects may end and others start.

The firm's costs in the short term can be clearly divided into fixed and variable. The first type includes costs that do not depend on the volume of production. For example, deductions for depreciation of buildings, buildings, insurance premiums, rent, salaries of managers and other employees related to the top management unit, etc. Constant costs of the company are mandatory costs that the organization pays even in the absence of production. Variable costs, on the contrary, directly depend on the activity of the enterprise. If production volumes increase, then costs increase. These include expenses for fuel, raw materials, energy, transportation services, wages for the majority of employees of the enterprise, and so on.

Why should a businessman divide costs into fixed and variable ones? This moment influences the functioning of the enterprise in general. Since variable costs can be managed, the manager can reduce costs by changing the volume of production. And as the overall costs of the enterprise are reduced, the profitability of the organization as a whole is increased.

In the economy there is such a thing as alternative costs. They are related to the fact that all resources are limited, and the company has to choose one way or another for their use. Alternative costs are lost profits. The management of the enterprise, in order to receive one income, deliberately refuses to receive other profits.

Alternative costs of the firm are divided into explicit and implicit. The first are those payments that the firm would pay to suppliers for raw materials, for additional rent, etc. That is, their organization can assume in advance. Explicit costs include cash costs for renting or buying machines, buildings, cars, utility bills, hourly wages of employees, payment of transportation costs, raw materials, components, semi-finished products, etc.

Implicit costs of the firm belong to the organization itself. These points of costs are not paid to unauthorized persons. This also includes profits that could be obtained on more favorable terms. For example, the income that an entrepreneur can get if he works elsewhere. Implicit costs include rental payments for land, a percentage of capital invested in securities, etc. Each person has such a cost. Consider an ordinary factory worker. This person sells his time for a fee, but he could get a large salary in another organization.

So, in the conditions of a market economy, it is necessary to strictly monitor the expenses of the organization, it is required to create new technologies, train employees. This will help improve production and more efficiently plan costs. This means that it will lead to an increase in the company's income.