A cost function is an economic function used in manufacturing to aid in making production line decisions. The cost function covers the cost of producing an item, taking into account both the fixed costs of the production as well as the variable cost per unit. To calculate a cost function then requires complete knowledge of the inputs into production for accuracy. Once you calculate the cost function though, you can use for a direct comparison of the costs of producing multiple product lines, comparing the profitability of each to determine the best usage of manufacturing resources.
Things You'll Need
- Production cost information
Examine the production process for the product that you’re manufacturing to determine the fixed costs for the production line. Fixed costs include those that you incur regardless of how many units you produce during the production period (for example: rent, buildings and machinery costs).
Determine the variable costs for the period as well. These are the costs that change with a change in the amount of product output and include costs such as wages, raw materials and utilities. For ease of calculations, use a month as your calculation period.
Count the number of units manufactured during the period.
Divide the variable costs for the period by the number of units produced to determine the variable cost per unit.
Calculate the cost function by multiplying the number of units you wish to determine the function for by the variable cost per unit and then adding the results to the fixed costs for the production period.