Difference between Average Cost vs Marginal Cost
In accounting, costing is an important concept; it is a cash amount that is assigned to an asset. Cost is the amount which is paid to get assets in place and ready for use. So in short cost is nothing but the expenses incurred to produce one unit of product. Average cost vs Marginal cost is the different type of cost technique used to calculate the production cost of output or product. Breaking down of costs into an average cost and marginal cost is important because each technique offers its own insight to the firm. Now we learn the concept of Average Cost vs Marginal Cost.
Average Cost:
Definition: It is the total cost of making a single product calculated by dividing the Total cost by the number of product manufacture. The most important components in average cost are fixed cost and Variable cost. It is also called as Unit cost.
Formula: Total Cost (Fixed Cost + Variable Cost) / by Number of units Manufactured
The above formula shows that the average cost is directly related to the number of units manufactured; If it is increased, averaged cost per unit will decline; If its decreased, average cost per unit will increase.
Marginal Cost:
Definition: It is a cost incurred due to the change in total cost due to an increase in the unit of product. So it is an additional cost or extra cost as a result of an increase in the production of one more unit of product. The most important component in marginal cost is the variable cost of production. Marginal cost plays an important role in the business for the decision-making process. When the company performs a financial analysis that times management evaluate the pricing of each product offered to consumers that time management console marginal costing analysis.
Formula: Change in Total Cost / Change in number of units Manufactured
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The total cost can be increased or decrease incur while producing one extra unit of product.
Head to Head comparison between Average Cost vs Marginal Cost (Infographics)
Below is the top 6 difference between Average Cost vs Marginal Cost
Key Differences between Average Cost vs Marginal Cost:
Let us discuss some of the major differences between Average Cost vs Marginal Cost:
- Average cost is nothing but the Total cost divided by the number of units manufactured which shows the result as per unit cost of the product, whereas Marginal cost is extra cost generated while producing one or some extra unit of products and it is calculated by dividing the change in total cost with Chang in total manufactured unit.
- Marginal cost considered all cost which fluctuates during the level of production and fixed cost remain constant up to a certain level of production, whereas Average cost considered Fixed cost and Variable cost. In Average cost, both Fixed and Variable cost is product cost whereas in margin cost Fixed cost is considered as period costs and Variable cost is product cost.
- Average cost calculates the effect on total unit due to change in output level whereas marginal cost is calculated to find out if producing one extra unit of product is profitable or not.
- Average cost method also called a weighted average method and Marginal cost method is also called as variable costing.
- Both average cost vs marginal cost is measured under the same units and obtain the result from Total cost.
- If an objective is to increase profit during production level than the marginal cost technique is useful and when an objective is to reduce cost during production level, in that case, the Average cost technique is used.
Average Cost vs Marginal Cost Comparison Table
Let’s look at the top 6 Comparison between Average Cost vs Marginal Cost
|
Description |
Average Cost |
Marginal Cost |
| Definition | It is per unit cost of goods or services manufactured. | It is the extra cost incurred for the manufactured of one extra unit of goods or services. |
| Purpose/Intention | The average cost is calculated to evaluate the effect on total unit cost due to the change in the output unit. | Marginal cost is calculated to check if it is beneficial to manufacture an extra unit of goods/services or not. |
| Component | The average cost is separated between Fixed cost and Variable cost. | Marginal cost considered all costs it cannot separate between Variable cost and Fixed cost. Fixed cost remains constant up to a certain level of production. |
| Formula | AC = TC (FC+VC) Divided by the Total number of units manufactured. | MC = Change TC Divided by change in the Total number of units manufactured. |
| Business decision | With the help of Average cost, an organization can take the decision to reduce cost at a production level | With the help of Marginal cost, an organization can take a decision to increase profit at the production level. |
| Profitability | If an organization is looking for a return on investment, in that case, the price of the product must be equal to the average cost to recover the fixed cost and variable cost. | If an organization is looking for increasing Profits in that case marginal cost must be lower than the price of the product and the organization may expand production until marginal cost equal to the price of the product. |
Conclusion
Marginal cost vs Average cost both are costing technique used to calculate the cost of the product which incurred while manufacturing. It helps an organization to set the final price of the product and cover all its expenses through it. Marginal cost method helps an organization to increase profitability at the production level and the Average cost method helps an organization to reduce cost at the production level. Average cost helps to understand how much expenses incurred while producing a single of product and Marginal cost helps to understand how much extra cost will incur while producing one extra unit of product.
Marginal cost does not depend on fixed cost because it does not change with output, or it remains constant up to a certain level of production whereas variable cost change with the output, so in short marginal cost is due to change in variable cost. The average cost considers both fixed cost and variable cost of the product which is called Total cost. The average cost and Marginal cost effect each other as the production varies. When average cost decreases in that case marginal cost is less than the average cost and vice versa and when the average cost is the same or constant in that case both are equals to each other. Marginal cost plays an important role in economics as it shows the costs at a very definite point in time. Even though the average and marginal cost is an important concept for an organization but some time pricing of products with this method leads to a significantly different result.
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