You are on page 1of 10

5 ways to determine cost

production for product and


service
1. Per unit model
2. Segmenting model
3. Cost indexes
4. Power-sizing model
5. Learning curve model

Per unit model


Estimates the cost of producing and selling one unit.
The estimate of total cost for a given volume of
production is computed by multiplying the estimated
cost/unit with the volume of production/service. This
method does not consider the benefits of scale of
production.

Segmenting Model
Splits the tasks of the product/service into different
segments. Then the cost of each segment is to be
estimated and finally, the cost of the product is
obtained by summing the costs of all the segments of
the product/service.
Example: if we consider the cost of a two-wheeler-motor
cycle or scooter-its different subsystem/segment are
engine, frame, electrical system, break system, sound
system, silencer, transmission system, fuel supply
system, etc. Under this system, the estimator should
estimate the cost of each of the segments and sum

Cost Indexes
The prices of commodities increase/decrease over a period of time.
Though both options are possible, most of the time the process
increase. Such changes can be used to estimate the cost of a product
based on the cost of that product in the past and consumer price index
(CPI).

Continue.
The formula is given by
P2 = Cost of the product at time T1 *(
This method helps the estimator to avoid repeating the detailed estimate
as done at time T1. But it will carry some error.

Power Size Model


The cost of product/service of a particular size may not be in direct
proportion to that of a comparable product, but definitely there will be
reduction in total cost when the size of the product/service increases in
relation to that of a comparable product

Continue
Let,
the 10 HP engine be product X1 and its cost be P1, and let the 20 HP engine be product X2, and its
cost be P2. The cost of the product X2 can be determined using the following formula. (Here, 10 HP
engine is considered to be a comparable unit):
Cost of X2 = Cost of X1 *( )k
Where
Cost of X2 = cost of 20 HP engine
Cost of X1 = cost of 10 HP engine
Size of X1 = 10 HP
Size of X2 = 20 HP
k = exponent which indicates the economy of scale
If k = 1, there is no economy of scale and if k > 1, it represents the scale of diseconomy.
Let the cost of X1 be $ 20,000 and the scale of economy k be 0.8. Hence , the cost of X2 = $ 20,000 *
( 20/10 )0.8 = $ 34,822.02.
The size of the product may be physical size of the product or capacity of the product or any other
comparable unit.

Learning Curve Model


The learning curve model depends on the effect of the learning curve.
If a task is repeated by an operator over a period of time, then the time
taken to complete Nth unit will be less than that of the first unit of that
task. Using this concept, the time taken to produce the Nth unit of a
task/product may be estimated. Then, based on these estimated times if
the units from 1 to N units, we can obtain the total time for carrying
out the N units of that product/task.

Continue
If
N is the number of units produced initially, the time required to complete
2N units will be a fixed percentage of the time required to produce N units,
for all positive values of N.
The formula to compute the time of completing N units is given by
Time of completing N units, TN = T1 * Nk
Where
N = number of units to be produced
T1 = time to complete one unit
TN = time to complete N units
k = learning curve exponent which is given by the formula:
k=

Continue
Example

If the time to complete one unit of a task is 20 min and the learning curve rate is 80%, find
the time to complete the 50th unit of that task.
Solution
Time to complete the first unit of the task, T1 = 20 minutes
Learning curve rate = 80 % = 0.8
Learning curve exponent, k = log (learning curve rate) / log 2.0
= log (0.8)/log 2.0
= -0.3219
Time to complete the 50th unit of the task = T1 * Nk
= 20 * (50-0.3219)