Unit 3-4 Flashcards
Expenditure vs costs
Expenditure is a cash outflow when you buy something into the business. If these things are then used within a certain period, this will also be a cost for the period.
Two significances about costs:
- Economic significance = informs about quantities and prices.
- Accounting significance = shows consumption and depreciations in a period.
Goal of the company:
A rational economic goal is to maximize profits.
Profit=
Total Revenue - Total Costs.
Value vs Price vs Costs
Value is associated with the customers subjective perception of the product. Related to the idea of willingness to pay.
Cost is what the product cost to produce and Price will be somewhere in the middle. Cannot charge more than the consumer is willing to pay and must at the same time cover the costs.
Opportunity cost:
The loss of revenues that the second best option of your resources could have brought into the business.
Direct vs indirect costs:
Direct costs are directly related to the production process and can be attached to a specific output, whereas the indirect costs are overhead costs that are more of an organizational type.
Four different costs based on their variability:
- Fixed costs: do not vary with production. Can be inevitable like loans but also avoidable like ads.
- Variable costs: vary with production.
- Semi-fixed costs: different levels of FC depending on production level. (steps)
- Semi-variable costs: a part of FC plus a variable part, ex subscription.
Break even point (BEP)
The level of production that equalizes the TC and TR so that profits are zero. The point where the margin covers the fixed costs, from this point you start making profits.
4 ways of expressing BEP:
- Physical terms, unit sold.
- Sales volume, in monetary.
- Capacity utilization, as a percentage of max capacity.
- Time, when on the year you start making profits.
BEP in q
q = CF/(p-VCu)
How can BEP be reduced?
In the equation it is easy to see that if you lower your FC, higher the P or lower the unit variable cost - the BEP will be reduced.
Contribution margin
Simply the P-VCu, so what every unit sold will contribute with.
Safety margin
= Expected sales - BEP.
Economies of scale
Those companies with a large portion of FC so that if the company increases its production the average cost/unit cost will decrease.
Three parts of the Hoover’s principle:
a) Multiple principle
b) Reserves accumulation principle
c) Wholesale operations principle
Multiple principle
This introduces the concept of idling costs as it deals with the costs of not using the maximum capacity of the FC.
Idling costs=
The portion of the FC that the company bears which are not related to production. The opposite is the utilization cost.
Solving the idling cost with the multiple principle
With the least common multiple to reach full capacity. So if one machine can produce 100, another 200, 300 and the fourth 500 you must have a production of q=3000. This requires 30, 15, 10 and 6 machines of the different types.
Reserves accumulation principle
Companies need some kind of stock to meet unexpectedly high demand - both raw materials and finished products. This proportion is smaller in large companies.
Wholesale operations principle
Doing the wholesale in addition the only doing the production you will reduce your cost per unit of FC. Also the experience curve (learning curve) says that the time of producing will be reduced.
Operating Leverage:
A measure of how the variation in sales affect the variation in profits. It is based in the relation between FC and VC. The bigger the FC, the bigger the leverage of sales till be.
DOL =
(p-CVu)q divided by (p-CVu)q - FC
Coverage coefficient
CC = (p-CVu) /p
This is a measure of the speed at which FC are recovered.
BEP in monetary units
= CF/CC, why? How does this works? Because if CC is the speed at which the FC are covered, then if we divide the FC with this speed we will get the monetary BEP where the FC is fully covered.
Choosing location, why hard decision?
Because it is a long-term decision (costly and hard to change location) and incorporates many factors, for ex the distance to the market where we sell, distance to where we buy materials, tax differences, etc.
Why was this an easy decision at the beginning of trading?
Because your business were probably about agriculture and you needed to be where the soil was most fertile.
Location factor: raw materials
you have to consider the price/cost of material and also the place where it can be acquired.
LF: Energy
Price and feasibility must be considered, especially if special energy is needed.
LF: Workforce
The qualification of the workforce at the location byt also workforce will go hand in hand with the labor ost (the salary you can offer).
LF: Consumption market
Good to be close to the final market (depends on the characteristics of the product)
LF: Land
The price, industrial parks, communication etc are very determinant in the long run. Parks will enable access to infrastructure.
LF: Capital investment
The location can affect how much initial capital investors you get, ex Silicon Valley. Close to populated cities is good.
LF: Tax advantages
Some locations provide tax or labor advantages to attract businesses. Like Ireland.
LF: Social environment
Some areas are more unstable when it comes to the labor, ex Spain have more strikes and protests than Sweden.
LF: Agglomeration economies
If your location is highly populated and industrialized it will bring advantages such as internal economies (higher production), location economies (easy access to resources and market) and at last urbanization economies (development of the are(?))
LF: Components supply and services
The ease of getting access to good services and supports such as lawyers etc.
LF: Waste removal infrastrucutre
How well the environmental system is developed around the location such as removal infrastructure, waste space, legal restrictions and recycling etc.
LF: Business Dynamism
More businesses around generate more opportunities. Synergies.
LF: Big suburbs
Big city means higher costs so instead you can start on a location outside, in the suburbs.
Blue banana
Where 73% of all car industry was in Europe before. This means for sure that they have used location methods to calculate where it is best to be - otherwise there wouldn’t be such a concentrated area.
BEP based method:
There are two methods using the BEP- kind-of-view, one focusing on both income and costs, and one only paying attention to the costs.
- BEP. Income dependent on location
- BEP. Income non-dependent on location
Income dependent on location
This method have two assumptions:
- One alternative will ahve lower FC but higher VC and the other alternative has the reverse relation.
- It is a service firm so the income function will be the same in either cases.
–> Choose the location where the profits (TR-TC) are expected to be highest. This is dependant on the expected sales in the two cases.
Income non-dependent on location
This method are listing all the costs at the different locations and are then stating the different cost functions. These are then plotten in a diagram at different levels of production (q). You should then choose the location which has the lowest cost. If there are more than one –> choose the one which have lowest cost in the most expected level of q or make the decision between those on other factors such as tax advantages or something else.
Weighted factors model:
This model mixes cuantitative and cualitative critera by identifying important factors and give them different weights and then getting different grades for the different locations.
The disadvantage of this method is that extreme values make the method volatile and very dependent on the weights given. (Can be solved by using geometric mean…)
Geometric mean method:
Uses exponential weights instead. It penalizes the weakest alternative. The the result might be different.
Center of Gravity method.
A method that only consider the cost of transport and will therefore search for the best coordinates dependent on where the suppliers and the markets are situated.
All about minimizing the TCT which is cvd. C*v=w, so the weight will depend on the unit cost of transport times the volume of materials. Then taking it times the distance.
Which two ways can you measure distance?
Either rectangular with only horizontal and vertical lines or linear, like fågelvägen.
Simple median model (center of gravity)
- Calculate the median value of the transported quantity by taking the sum of all c*v and divide by 2.
- Rank the coordinates in two tables (x and y) and accumulate their weights/importance.
- Choose the x and y where the median value is reached/included.
Critics to the median model:
- Does not consider the geography, the location might be impossible to reach.
- The unit cost of transport is assumed to be fixed but in reality some components are variable.
- Static technique, the option might be best right now but not for long.
Are the methods deciding which location to choose?
No, not really. They are more a mean of reducing the alternatives rather than deciding the actual location.
