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Production type significance

The factors described above comprise different values in conjunction with different production forms. Some forms of production are mostly dependent on production design, i.e. machinery, employees, technology, IT, etc., while other production forms are more dependent on competencies and employee motivation. See figure 5.1.

Figure 5.1 Human resources versus the production machinery

Human resources versus the production machinery

Decisions and costs

The basis for the future existence of almost any firm, is the ability to make the right decisions at the right time.

The most important cost-related decisions include:

o To produce a good at the lowest possible cost, i.e. to understand the origin of costs in a firm and to understand and manage the process, which leads to the lowest possible costs.

o To expand the product portfolio to include new products - or to reduce it.

o To invest in production facilities

o Whether to have in-house production or to outsource to a supplier

o To relate to and participate in the competition in the market place.

The decision outcome is dependent on multiple factors, such as costs. E.g. the decision of whether to produce or outsource will depend on the costs of in-house production compared to the costs of outsourcing. The time horizon of the specific decision can be quite decisive. Also, the costs of re-establishing production could also be a relevant consideration.

Even though it may be difficult to comprehend that the costs of producing a specific good can differ based on the decision-making occasion, this reality is at the core of a dynamic cost theory. Which is also the motivation for this book.

Case 1a:

When Avis car rental planned the purchase of new cars for 2001, they of course had to assess the total costs of owning a rental car for the planned time horizon, presumably two years. Including interest, and depreciation costs, also included in the rental. For a medium class car the result was that the total costs at a 12,000 km rental was 2.68 DKK per kilometer. When September 11th drastically changed the way many perceived the world, travel-activity diminished dramatically, prices on used cars fell unexpectedly, etc. AVIS and the other car rental companies ended up with huge, idle car fleets , only capable of making money in one way: by being leased. But in this new and more short-term oriented competition, the short-term costs were only 1.24 DKK per kilometer when leased. This new situation meant that AVIS had to understand the changes created by dramatic and unexpected external causes.

Registration and decision-making

This paper/book is concentrating on cost theory from a decision-making perspective. There are other perspectives, such as the registration oriented perspective, known from presentation of accounts, periodic accounts, annual accounts etc.

The fundamental difference here, is that while registration provides a picture of the historic activities of the firm (ex post), decisions are centered on the future of the firm (ex ante), which can still be influenced. Of course the historic experience will mostly provide a solid database for setting up future costs, but still there are a number of fundamental differences, shown in table 1.1.

Registration

Decision-making

Purpose

The purpose is to give a true and fair presentation of the financial position of the firm, which can for example provide for external stakeholders' reaching an accurate financial evaluation of the firm.

Oriented towards decision-making so that the firm can make the most efficient use of its means of production.

I.e. the expectation of a more rational production Is composed here.

Aspect of time

Historic perspective - ex post

Future perspective - ex ante

Target group

The accounts provide information for external as well as internal stakeholders.

Mainly internally in the firm providing basis for decision-making.

Legal obligations

The companies are obliged to present annual accounts bound by legal criteria regarding how the costs are specified and presented.

It is up to the specific firm whether to apply economic theory in managing the firm.

Scope

The accounts, in most cases, cover the entire firm.

Economic analyses are often carried out for single investments and single problems.

Frequency

Accounts are mostly presented monthly, biannually, or annually.

Carried out on an ad-hoc basis, when the situation demands it.

Cost definition

Costs of consumption/usage, which are the costs that sooner or later will be financially realized. In other words, costs that are to be paid or realized through losses in value.

Both costs of consumption/usage and opportunity costs (treated later), which are loss in income that emerge in case the factors of production have a possible alternative usage, which cannot be realized as a consequence of the activities.

Table 1.1: Fundamental differences between registration and decision-making

 
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