Knowing the Importance of Implicit Cost

Implicit cost is a type of opportunity cost that happens when a company uses internal resources for a project but doesn’t pay for that use. It also happens when a firm has to pick between numerous choices for using asset management. For corporate accounting purposes, implicit costs cannot be accurately measured. These costs can also help the manager in making effective business decisions for his company.

Because hidden costs are difficult to analyze objectively, they are not reported on financial accounts. To help you understand this type of implicit cost better, we’ll cover it in-depth in the following article. Examples of implicit costs, how to calculate them, differences with explicit costs, and considerations for both costs.

Examples and How to Calculate Implicit Costs

Assume that the manufacturing company has a building that they use to conduct business operations and produce goods. The company then prefers to use its building as an operational activity rather than rent it out to other parties.

The company can generate a net profit of Rp. 600 million per month, while the opportunity cost is Rp. 40 million per month rent the building to another party. This implicit cost is straightforward to assess because manufacturing enterprises already have a profit of Rp. 600 million – Rp. 40 million = Rp. 560 million. That is, the implicit cost of manufacturing companies is 560 million rupiahs per month.

Because the manufacturing company uses its resources in the form of buildings, it does not derive revenue from assets and will not report the cost of using the building as any explicit cost of using the building in its operational activities. Therefore, the company must be willing to lose potential revenue of Rp 40 million. This is what we commonly call implicit costs.

Another example of implicit costs is when someone allocates Rp 150 million to start a new business. Then the allocated money has the potential to get Rp 10 million in deposit interest per year if the company keeps it as a deposit in the bank.

The Difference between Implicit Cost with Explicit Cost

In addition to implicit costs, companies also have explicit fees. Of course, these two types of fees have different meanings. Explicit cost or explicit cost is the cost that a company must spend to get or produce something. This type of fee can also mean a real cost that the company has to pay to other parties during the running of its business. These costs are related to various factors of production that will have a direct impact on the profitability of the company.

In addition, these explicit costs are contractual or exact costs that include labor costs, inventory costs, rental costs, utility costs, mortgage costs, production costs, and company production machinery costs. That is, any cash financial management budget that comes out of the company’s cash flow will be recorded and put into the company’s bookkeeping or financial statements. Of course, in this type of finance, you should also be able to produce good and accurate financial statements so that your company can manage its business finances easily and appropriately.

Considerations to Consider of Both Costs

For explicit and implicit costs, companies should be able to consider the measurement of production costs, including:

• Include alternative costs or transportation costs on all inputs, whether the company owns or buys. The reason is that the company will not be able to hold the input in the lease when paid at a lower price than the price paid by another company. 
• Accounting or historical costs are essential for financial statements and corporate taxes. When businesses can make good decisions, economic costs or opportunity cost will be seen as important cost concepts that they should use.
• When discussing product costs, you should distinguish between marginal costs and surcharges. Marginal cost is a change in fixed cost on a unit of output change. For example, if the total force is $140 to produce 10 units of output and $50 to produce 11 units of output, then the marginal cost of the company in the 11th unit is $10.
• Additional costs, on the other hand, are broader concepts that refer to changes in the total cost of implementing a particular managerial decision, such as introducing a new product, conducting a particular advertising campaign, or self-producing the components they previously purchased.

Also read: The Importance of Knowing Opportunity Cost for Businesses

Conclusion

That’s the explanation of implicit costs. Although these costs are not included in the company’s financial statements, you still need a good and correct bookkeeping report to calculate your company’s expenses and revenues. Of course, you should be able to have the correct and proper financial statements. The goal is that your company can manage business finances more easily and accurately.

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