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Explicit costs that are paid for by the company, Recording the explicit cost is important because it helps in the calculation of profit etc.
Implicit or notional costs are not paid for. The purpose of ascertaining the implicit costs is that it helps in decision making regarding the replacement of any asset etc
Based on payment, costs are classified into two categories; they are Explicit Costs and Implicit Costs. Explicit Cost is the cost which is actually incurred by the organization, during production. On the other hand, Implicit Cost, are just opposite to the explicit cost, as the organization does not directly incur them, but they are implied in nature which does not involve a cash payment. A little bit of confusion and bewilderment takes birth in the mind of many cost accounting students when they are asked to distinguish the two.Explicit Costs are the costs which involve an immediate outlay of cash from the business. The cost is incurred when any production process is going on or an activity is conducted in the normal course of business. The cost is a charge for the use of factors of production like land, labor, capital and so on. They are in the form of rent, salary, material, wages, and other expenses like electricity, stationery, postage etc.Implicit Cost, also known as the economic cost, is the cost which the company had foregone while employing the alternative course of action. They do not involve any outflow of cash from the business. It is the value of sacrifice made by the entity at the time of exercising some other action. The cost occurs when an asset is used as a factor of production by the entity instead of renting it out.
Thank you all for your worthy answers specially Mr. Frank answer is more clear and pointed to the question, but still I have some confusions,
It is said that explicit cost (which also termed as economic cost or notional cost) is not recorded in accounting books because it is born by using company's own assets and there is not cash transaction involved in it.
A very common example is given that if company has a building for its operations, so company is loosing an opportunity to earn rent on this building - so this loss of rent is explicit cost for the management.
In this example I have confusion that, if a business owns a building, it must be recorded in books as a non current asset and the depreciation must be charged against it.. Its mean using business own building for operations is costing the business profit in financial reports in form of depreciation. Further, loss of rent income which we consider as explicit cost giving opportunity to save rent expense for our operations as well. So its mean we are reducing our implicit cost (rent expense) here and giving strength to our cash flow.
A good and more logical example I found on Investopedia is that if company is hiring a new employee and for the training purpose, an old employee of the company is expending his time on new employee training, this expending of time by old employee to new employee is costing the company implicitly as company will be responsible to pay for these training hours to both of employees without any outcome.
Some other example of implicit cost I guess could be amount of interest free loan giving to its employees/directors, or security deposits to suppliers without any interest or retention money held be customers - all these are loosing opportunities to earn interest on it or in case of having facilities from banks then loosing opportunities to reduce interest expenses against bank loans.
So, it can be concluded that any business resource (either human or machine or any other asset such as cash) is employed in such activities which are not giving any expected outcome to the business are implicit costs.
fully accepted with Mr. suliman answer
