Greetings and welcome to my blog. Find below my home work task.

What is a cost structure, and what is its importance for entrepreneurship?

Designed on Canva

Cost structure can be defined as the totality of all the different cost that make up the expenses of a company. In simple terms cost structure covers all the costs and expenses that is involved in a business for its operations.

In cost structure we have fixed costs, variable costs, the economics of scope and the economics of scale.

• Fixed costs are the expenses that do not change while running the business or services.
• Variable costs are costs that changes and are not permanent and are dependent on the business productions.
• Economics of scope points to the cost efficiencies gotten when the business offers a wider range of their products.
• Economics of scale points to the cost benefits the business gets by producing more products.

Cost structures are usually used by companies to set their prices for their products and look for ways to reduce costs. This mainly helps the company to know which of their products makes more profit and which does not. This also helps the owner of the business to track expenses. When expenses are tracked, the business owner can be able to examine the business and find out the area for needs enhancement.

Cost structure is divided into cost driven and value driven.

Cost driven cost structures looks mainly at trying to cut down the cost of production and decrease the general expenses while value driven cost structure looks at elevating the products and services to add more value thereby increasing revenue.

Pixabay

Importance of cost structure

• Cost structure is principal for business. Effective management of cost structure enhances the business to set the right price for their products and services, hence make profits and enable to business to be successful over time.
• A good cost structure will help the business owner to know where to allocate funds in his business thereby reducing careless spending.
• Cost structure makes for good management of finances as the business will have a good knowledge of their resources and fish out ways to improve their efficiency and cut down costs.
• It also helps businesses to know where they can channel funds, how to develop good strategies and plan their budgets.
• Costs structure helps the company to cut down expenses on items that are not essential hence increasing profits
• If helps the business to invest more in prospects that brings growth.
• When fixed costs like rents, insurance etc are known, the business can make financial strategies that are long terms oriented

Provide examples of businesses that use the cost structure methods explained; reason your answers.

An example under fixed cost

Let’s consider a fashion designing business. This has expenses that do not change not withstanding what is produced or sold. It has to pay for the rent of the place it’s situated whether sales are made or not. It also take care of utility bills. It pays Salaries for admin staff and insurance fees. It handles interest costs and property taxes as well. Therefore the fashion designer needs to be discreet to ensure he spends wisely and cover expenses so that number of production or sales do not affect cost.

Example under Variable cost

eBay is a very popular E commerce business. They sell their products on their websites. The expenses they run would depend on the volume of business. The expenses involved would include delivery, shipping, payment for raw materials, gas bills for their way house, electricity, online payments service fees, credit card charges and etc. Depending on the quantities of sales made, they cover up their expenses when orders are placed.

Economics of scale

Economics of scale can be beneficial to a manufacturing company when they produce more items which decreases the cost of the individual items because the general cost is distributed among many products. When there’s an increase in production, it lowers the cost of production per item because of the spread of the expenses over many goods. Over all cost can also be reduced when the cost of materials are cut. The production of many goods by bigger companies makes them benefit more from economy of scale.

Economics of scope

Consider a company producing biscuits offering a wider range of their products. They can decide to manufacture different version of the same product giving people more options to choose. I once went to buy a chocolate biscuit I loved so much, but on getting to the supermarket, I saw two other different flavors, vanilla and mosaic, guess what? I bought all the three flavors. Varieties of products, same company.

Pixabay

What are the elements of a cost structure? Provide examples

Costs varies by industries and the type of business and the cost structure can change depending on the type of business. The expenses incurred by entrepreneurs depends on the type of business.

Cost structure elements includes:
Variable cost
Fixed cost
Economics of scope
Mixed cost
Economics of scale

Variable cost: Variable costs are expenses that changes depending on the quantity of goods or services such as packaging supplies, Commissions, piece rate labour, raw materials, production supplies and credit card fees

Fixed costs are costs that do not change or fluctuate despite the sales or production of goods or services. Fixed Costs includes rent, admin staff salaries, loan payments, insurance and utility bills.

Mixed cost: This is a combination of variable costs and fixed costs.

Economics of scope: Looks at the cost savings that comes from producing multiple items instead of one. For example a shoe manufacturing company can produce children shoes, women shoes and men’s shoes and this will reduce cost than when three different companies tries to produce each line of product. They make use of the same supply chain, equipment, distribution process and same production process to make all the three products.

Economy of scale comes in handy when a company buys goods in large quantities so that it’s given to them at bulk price. Others elements of costs are pricing decisions, sunk cost etc

Prepare the cost structure of a business dedicated to the production of cakes. It has a production of 5 cakes per day and expects to obtain a total profit margin of 25%.

FIXED COST
Rent- #2000
Equipment- #800
Maintenance- #600
Salaries- #1000
Insurance- #400
Total fixed cost = 4800

VARIABLE COST
Ingredients- #40 per cake
Electricity/gas - #2 per cake
Packaging- #6 per cake
Total variable cost = #48

TOTAL COST PER MONTH
Total variable cost (5*30)= 150 * 48= #7200
Total fixed cost = #4800
Total monthly cost =7200 + 4800 = 12,000

DESIRED PROFIT =(25%)
25% of 12,000 = 3000

TOTAL REVENUE
Total revenue = Total cost + Desired Profit
= 12,000 + 3000
= 15,000

PRICE PER CAKE
Total revenue \ number of cakes in a month
= 15,000\150
= 100
Price per cake = #100

From the calculations above, Using the total margin of 25% for 5 cakes a day. Profit would be gained if the cakes are sold at #50 each.

Thank you for reading through. I ask @ngozi996, @vickeyson and @beewrites to join this engagement challenge.