Production costs include any expenses associated with business activity for an organization. Manufacturing costs only include the expenses of actually producing the product. These two figures provide different means of understanding the total expense of operating a manufacturing company. The revenue that a company generates must exceed the total expenses before it achieves profitability.
What Are Production Costs?
Costs of production may include many of the fixed and variable costs of operating a business.
Fixed costs typically include:
- Building rent
- Advertising budgets
- Business equipment
- Other expenses that do not necessarily change with changes in the volume of business
Variable costs increase or decrease if production volume changes. Typical variable costs include the following:
- Supply costs
- Other expenses that change depending on production
Production costs may be added together to help business owners determine fixed costs and variable costs. As production and revenue increase, these costs per item typically fall and allow the business to become more profitable. A lower per-item fixed cost motivates many successful businesses to continue expanding production up to total capacity. This allows the business to achieve a higher profit margin after considering variable costs.
What Are Manufacturing Costs?
Manufacturing costs are typically variable costs associated only with production volume. Total manufacturing expenses increase as production increases and additional production is necessary. When calculated as per-item expenses, these costs typically do not change. Additional production always generates additional manufacturing costs.
For example, a small business manufacturing widgets has fixed costs of $800 for its building each month and $100 for equipment purchase and maintenance. These expenses stay the same regardless of how much production occurs, so per-item costs are reduced if the business makes more widgets. The total production costs are $900 per month in fixed costs plus $10 in variable costs for each widget the business produces. To produce each widget, the business must purchase supplies at $10 each. Each widget sells for $100. After subtracting the manufacturing cost of $10, each widget makes $90 for the business.
To break even each month, the business must produce 10 widgets. It must make more than 10 widgets to become profitable.