Complete guide to cost price and its calculation
Do you operate a restaurant, bakery or pharmacy and want to know what the company’s cost price is and how to calculate it? We present to you this complete guide on cost price , how to interpret it and what is its calculation method. Essential for the good management of a business, it is one of its fundamental elements.
Definition of cost price
The cost price is a component of the selling price. It corresponds to the sum of direct and indirect costs incurred by the company in the production, but also the distribution of a product or service. It is from this cost price that the company determines its profitability by subtracting it from the turnover of the good or service in question.
If you are planning to launch your business and are going to set up the monitoring of the ratios of your activity, calculating your cost price will allow you to know if the financial investment you are thinking of will be covered by the profits from the sale . It is therefore a real safeguard for every entrepreneur wishing to check the profitability of their business .
More simply, the cost price corresponds to the total amount that was spent to make a new product or service available to customers . The entrepreneur will therefore have to determine the exact amount of expenses necessary to achieve the marketing of the product or good. He must also be able to understand and interpret it in order to set the fairest selling price possible.
Good to know: cost price is also used during commercial negotiations with suppliers or service providers. It allows you to know the limits not to be exceeded to maintain a sufficient margin and therefore good profitability.
Why calculate the cost price of a product or service?
The cost price is integrated into the forecast budget common to all commercial, artisanal, production and service activities. It thus makes it possible to determine:
the sales price excluding tax of the product;
For bakeries and restaurants, the cost price makes it possible to anticipate expenses and understand the impact of the new investment, particularly with regard to the profitability of a bakery or the profitability of a restaurant .
How to calculate the cost price?
It is also called unit cost and corresponds to the total sum of direct and indirect costs borne by the company which is related to the quantity of goods produced or services. It is also integrated when a restaurant works on the overall load of its operation and on the monitoring of its catering ratios . Remember that it is forbidden to sell at a loss for a business! An error in the cost price can ruin the distribution of a product and involve marketing it without profit. Remember to correctly calculate the cost of an employee for the company.
Classic cost calculation method
Example: if the direct and indirect costs to produce 20,000 mugs amount to €50,000, the cost price will be 50,000/20,000 or €2.50 per cup. This amount then corresponds to the irreducible cost that the company will have to spend to start manufacturing these 20,000 mugs before adding its margin and, of course, VAT.
Calculation method using software
Supporting companies in the management of their activity (development of the business plan in particular) using dedicated software saves time when calculating the cost price. the company must regularly provide all the data it has; the software then takes care of producing the cost price.
Distribution between direct and indirect charges
To calculate its cost price, the company must know the amount of its direct and indirect costs . It is therefore useful to master, from now on, the distribution between these two charges.
Direct charges
Direct charges are in interaction with the process of producing the good or service . They include, in particular, the cost of raw materials , fixed and variable costs related to production such as energy consumption, but also the salaries of personnel assigned to the manufacture of the product.
Indirect charges
These do not enter directly into the process of manufacturing or providing the service, but they have a participatory role to play. These are the amounts spent in the proper functioning of the business as well as on the launch of the product or service. This includes transport costs, packaging costs, rent, advertising or communication costs, etc.
The impact of cost price on the selling price
Once the cost price has been calculated, the company has a price that can be described as gross , that is to say before any addition of the commercial margin . Determining the margin made on sales (here we speak of gross operating surplus) will allow it to pay any loan repayments, but also to define the net profit that it wishes to obtain. We will thus obtain a sales price excluding tax to which we will add the amount of VAT.
