me11--ch. 9
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MANAGERIALMANAGERIAL
ECONOMICS 11ECONOMICS 11thth EditionEdition
ByBy
Mark HirscheyMark Hirschey
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Cost Analysis andCost Analysis and
EstimationEstimationChapter 9Chapter 9
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Chapter 9Chapter 9OVERVIEWOVERVIEW What Makes Cost Analysis Difficult
Opportunity Cost
Incremental and Sunk Costs in Decision Analysis Short-run and Long-run Costs
Short-run CostCurves
Long-run CostCurves
Minimum Efficient Scale Firm Size and Plant Size
Learning Curves
Economies of Scope
Cost-volume-profit Analysis
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Chapter 9Chapter 9
KEY CONCEPTSKEY CONCEPTS historical cost current cost replacement cost opportunity cost explicit cost implicit cost incremental cost profit contribution sunk cost cost function short-run cost functions
long-run cost functions short run long run planning curves
operating curves fixed cost variable cost short-run cost curve long-run cost curve economies of scale cost elasticity capacity minimum efficient scale multiplant economies of scale multiplant diseconomies of scale learning curve
economies of scope cost-volume-profit analysis breakeven quantity
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What Makes Cost Analysis
Difficult? Link Between Accounting and EconomicValuationsAccounting and economic costs often differ.
Historical Versus CurrentCosts Historical cost is the actual cash outlay. Current cost is the present costof previously
acquired items.
ReplacementCost Costof replacing productive capacity using
current technology.
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Opportunity Cost
Opportunity CostConcept
Opportunity cost is foregone value.
Reflects second-best use.
Explicit and ImplicitCosts
Explicit costs are cash expenses.
Implicit costs are noncash expenses.
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Incremental and Sunk Costs in
Decision Analysis Incremental Cost
Incremental cost is the change in cost tied toa managerial decision.
Incremental cost can involve multiple units ofoutput.
Marginal cost involves a single unitofoutput.
Sunk Cost Irreversible expenses incurred previously.
Sunk costs are irrelevant to present decisions.
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Short-run and Long-run Costs
How Is the Operating Period Defined?
At leastone input is fixed in the short
run.All inputs are variable in the long run.
Fixed and Variable Costs
Fixed cost is a short-run concept.
All costs are variable in the long run.
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Short-run Cost Curves
Short-run CostCategories
Total Cost = Fixed Cost + Variable Cost
For averages, ATC = AFC + AVC Marginal Cost, MC = TC/Q
Short-run Cost Relations
Short-run cost curves show minimumcost in a given production environment.
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Long-run Cost Curves
Economies of Scale
Long-run cost curves show minimum
cost in an ideal environment.
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Cost Elasticity and Economies
of Scale Cost elasticity is C = C/C Q/Q.
C< 1 means falling AC, increasing
returns. C= 1 means constant AC constant
returns.
C > 1 means rising AC, decreasingreturns.
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Long-run Average Costs
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Minimum Efficient Scale
Competitive Implications of MinimumEfficient Scale
MES is the minimum pointon the LRAC curve. Competition is most vigorous when:
MES is small in absolute terms.
MES is a small share of industry output.
Disadvantage to less than MES scale ismodest.
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Transportation Costs and MES
Terminal, line-haul and inventory costs can beimportant.
High transport costs reduce MES impact.
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Firm Size and Plant Size
Multi-plant Economies and Diseconomiesof Scale
Multi-plant economies are c
ost advantagesfrom operating several plants.
Multi-plant diseconomies are costdisadvantages from operating several plants.
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Economics of Multi-plant
Operation: an Example
Plant Size and Flexibility
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Learning Curves
Learning Curve Concept Learning causes an inward shift in the LRAC
curve.
Learning curve advantages are often mistakenfor economies of scale effects.
Learning Curve Example Strategic Implications of the Learning
Curve Concept When learning results in 20% to 30% cost
savings, it becomes a key partof competitivestrategy.
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Economies of Scope
Economies of Scope Concept
Scope economies are cost advantages thatstem from producing multiple outputs.
Big scope economies explain the popularity ofmulti-product firms.
Without scope economies, firms specialize.
Exploiting Scope Economies Scope economics often shape competitive
strategy for new products.
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Cost-volume-profit Analysis
Cost-volume-profitCharts
Cost-volume-profit analysis shows effects ofvarying scale.
Breakeven analysis shows zero profit points ofcost coverage.
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Degree of Operating Leverage
DOL=Q(P-AVC)/[Q(P-AVC)-TFC]
DOL is the elasticity of profit with respect tooutput.
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