Implicit Costs: Definition & Examples

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  • 0:01 Types of Costs
  • 1:51 Lost Profits
  • 3:10 Benefits Without Expenditures
  • 4:35 Lesson Summary
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Lesson Transcript
Instructor: Tara Schofield

Tara has a PhD in Marketing & Management

Not all of the costs a business must consider can be calculated and tracked on a monthly basis. This lesson introduces the concept of implicit costs, including examples and how they differ from explicit costs.

Types of Costs

In an ideal world, running a business would be nothing but ease and profits. But in reality, businesses come with costs of all kinds. Despite the wide range of types of costs, all of them can be placed into one of two categories: implicit or explicit.

By far, explicit costs are easier to analyze because they are expenses that require a payment and have an amount that can be calculated. Explicit costs are numerical, calculable, and can be tracked and balanced. Supplies, rent or mortgage payments, payroll, the cost of utilities such as electricity and gas, transportation, and even taxes - all of these are examples of explicit costs. If you can calculate a specific amount spent by the business, it's an explicit cost.

The other type, implicit costs, are much more difficult to calculate. Despite this, they do have a sizable, although difficult to measure, impact on a company. Implicit costs, sometimes called notional, implied, or opportunity costs, are expenses to a company that do not necessarily require additional expenditures, but can have an indirect effect on the business. It may be an expense that will be incurred regardless of whether or not revenue is tied to it, or it could be the cost of resources that are not being charged directly to the company.

Think of implicit costs as opportunity costs, or 'if things were different' costs. They are opportunities for profits not earned because of the way the company is being run now or they account for products or services that the company is not having to pay for, though that explicit cost would be an expenditure for the company 'if things were different.' To clarify, let's look at an example for each type of implicit cost: lost profits and benefits without expenditures.

Lost Profits

In our first example, lost profits, the company is incurring expenses regardless of whether or not revenue is tied to it. The candy manufacturing company Sugar High Candy decides to take a closer look at their production capacity. Sugar High's sweets are so good, they cannot meet the demand for their products and are unable to fill all of the orders they are getting. Currently, they are running their manufacturing equipment during normal business hours: 40-hours per week. So, what can they do?

After crunching some numbers, Sugar High realizes they could be making an additional $50,000 net profit from additional candy sales each week if they extended their production time past the 40-hour work week. Currently, there are no additional costs for having the equipment sitting idle for those extra hours each week. Therefore, there are no explicit costs.

However, there is an implicit cost of $50,000 per week by continuing to limit production hours to 40 hours per week. This is the cost of lost income the company has by not taking advantage of the opportunity of producing more. For every week that Sugar High limits production to only a regular work week, they lose $50,000. This is the implicit cost to the way they do business now.

Benefits Without Expenditures

In our second example, benefits without expenditures, the cost of resources that are not being charged directly to the company, we see a different aspect of implicit costs. Veronica has just left her full-time job to put all of her efforts into a flower shop. Because her shop is just getting started, she realizes that she personally cannot take an income from their shop's generated revenue for two more years. That's okay, because Veronica knew that was going to happen and has saved an adequate amount of money personally to cover her living expenses until her flower shop is making enough money to give her a paycheck.

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