The Economic Perspective: Financing a business is very different from obtaining a loan for personal reasons. From the economic perspective the expenses that have to be borne by a business can be broadly classified into the following categories: Fixed Costs and Variable Costs. Fixed costs remain the same regardless of the level of production. In other words, whether or not a business is in operation, the amount of fixed costs will remain the same. Expenditure on machinery and equipment is an example of a fixed cost. Variable costs, on the other hand, change depending on the level of production. Variable costs are directly related to the level of production. The cost of raw materials is an example of variable cost. Hence, from the point of view of an economist: Total Cost = Total Fixed Cost + Total Variable Cost.

The Accounting Perspective: From the perspective of accounting, costs can be classified as implicit or explicit. Explicit costs are expenses which can be accounted for in monetary terms. Both, rent and wages paid, are explicit costs. On the other hand, a businessman who does not pay his wife for assisting him in day-to-day workings of a business, is said to incur implicit costs. Hence, for the purpose of accounting, total cost can be defined as: Total Cost = Explicit Cost + Implicit Cost. Read the rest of this entry »