The True Cost of Production


 

Designing your product for monetization first, and people second will probably leave you with neither.
Tara Hunt

Let’s go back to the supply’s graphic. We mention earlier that there is a minimum price that the producer will ask in order to start offering the article or service that will cover the costs and yield a profit and a maximum quantity the seller can offers due to installed capacity and other variants:

sdpic4.jpg

The start point here is how the seller calculates the minimum price. By seller I mean the industry as a whole and also a particular seller, this is just an example on how prices are set.

For any given product, you have two different costs: fixed and variable. The former is the cost that exists even if you don’t produce anything: rent, electricity, cost of equipment you need et cetera; the latter is the aggregate cost of producing an article or product: cost of seeds, raw material, variable labour, et cetera. Often these costs may blur, like management salary, or the cost of a marketing campaign, the important thing is that these are the common two divisions of cost that accountants and financial managers know well.

For producers, labour (including management wages) and raw materials are usually the main cost they use on calculations. When you go to Wal-Mart and buy a cheap product, you should know that the product is cheap because Wal-Mart has either a low cost on raw materials (lower quality materials) and also a lower cost on labour (part time employees that don’t receive benefits and work for minimum wage), so Wal-Mart is able to offer you a low cost at expenses of other stakeholders’ benefit.

Stakeholder is defined as an entity that is affected by a process. In any productive chain, usually you have as stakeholders: The Corporation, the government, the customer, the worker and the environment. I will next post a more deep analysis on stakeholders, but for now is important to know that all these entities are affected by any productive chain.

So, how is the price set then for a given product?

P= fixed cost + variable cost + possible profit

For retailers, like Wal-Mart:

P= Lowest possible fixed cost + lowest possible variable cost + maximum possible profit

For retailers like Ten Thousand Villages:

P= fair fixed cost + fair variable cost + fair profit

The last question should be then, what is a fair cost? Francisco Van Der Hoff, in the Congress of Humanity and Social Science at York University (Toronto) stated that the cost of producing any product is composed of three elements:

· True cost of production. This means not only the cost of the raw material, but also the land, salary of workers, and opportunity cost of growing a product instead of another.

· Social cost: The impact and repercussions for the worker and his or hers surroundings like education for children and hazardous working conditions.

· Environmental cost: The cost of soil degradation, fertilizer poured in the land and hazard to the ecosystem, et cetera.

So, next time, think twice before buying a cheap product that may be done at the expense on somebody else’s quality of life.

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3 Responses to The True Cost of Production

  1. Mylène says:

    I totally agree with you. I also was at this conference with Francisco Van Der Hoff and I was amazed to see how many people were fighting for fair trade. Therefore, there is still a big issue with fair trade, in my opinion. Yes
    I want to support it and I am totally agree that the ones that makes a products should have a fair price for it. Unfortunately, I can’t afford it, it is tooooo expensive. If I would buy fair trade coffee, it would cost us hundreds of dollars a month…maybe utopic?
    Also when I run out of money I think about going to walmart (walmarde) because I know that it is way cheaper. I have to resist because I am boycotting this place. Go to Ten Thousand Village and you would find the prices crazy. For a brace that I can find in Merida, Mexico, I paid
    it 4$ and they charge 40$ for the same brace!!!!!!!!!!!!!!
    What do you think, were the money goes then?? How is getting fair price?
    We need a model that must work and just make products available to make more people buy fair trade product
    and create an universal demand!!!!!! WHat you would propose Manuel?

  2. mcyclops says:

    After six months of work I found out that it is useless to try and push a product that has not demand (see my previous posting on Economic theory and Green Consumers), in future postings I will be mentioning the main fail of Fair Trade: It tends to create an artificial market. Only the fair trade articles with a competitive price will thrive, the rest will remain marginal and will offer palliative cure to the disease of poverty. Producers that cannot compete with coffee would need to switch to, let’s say, organio or shade-grown coffee to make a bigger profit.

  3. view website says:

    view website…

    […]The True Cost of Production « Left with Brain, Right with Heart[…]…

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