Use this simple calculator to determine your Total Economic Cost and Economic Profit by inputting your total revenue, explicit expenses, and implicit opportunity costs. Understanding the difference is crucial for true financial analysis.
How to Calculate Explicit and Implicit Cost
Calculated Economic Profit
How to Calculate Explicit and Implicit Cost Formula
The calculation is based on two fundamental economic concepts:
Economic Profit (EP) = Total Revenue – Total Economic Cost
Source: Investopedia – Economic Profit, Khan Academy – Implicit & Explicit Costs
Variables Explained
- Total Revenue (TR): The total amount of money brought in by the company from sales of goods or services during a specific period.
- Explicit Costs (EC): The standard, out-of-pocket business expenses that show up on an income statement, such as wages, rent, utilities, and materials.
- Implicit Costs (IC): The opportunity costs of using resources the firm already owns (like capital or owner’s time). This is the revenue forgone from alternative uses.
Related Calculators
Explore other useful financial and economic calculators:
- Economic vs. Accounting Profit Calculator
- Opportunity Cost Calculator
- Break-Even Analysis Calculator
- Marginal Cost Calculator
What is the Total Economic Cost?
The Total Economic Cost is the sum of both explicit and implicit costs incurred by a business. It provides a more comprehensive view of profitability than accounting cost alone. While explicit costs are easy to track (they are actual cash payments), implicit costs are estimated values of forgone opportunities. For example, if a business owner uses their own building instead of renting it out, the forgone rental income is an implicit cost.
A business achieves **Economic Profit** only when its Total Revenue exceeds its Total Economic Cost. If Economic Profit is zero, the firm is said to be earning a *normal profit*, meaning it is covering all its costs, including the opportunity cost of the entrepreneur’s time and capital.
How to Calculate Explicit and Implicit Cost (Example)
Consider a small coffee shop owner, Jane, who left a $60,000 annual job and invested $50,000 of her savings (which earned 5% interest annually) into her business. Her business data for the year:
- Determine Total Revenue: Jane’s coffee shop earned $150,000 in sales (TR).
- Calculate Explicit Costs: Jane paid $70,000 for beans, rent, and wages (EC).
- Calculate Implicit Costs: This includes her forgone salary ($60,000) and forgone interest on her investment ($50,000 * 5% = $2,500). Total IC = $60,000 + $2,500 = $62,500.
- Calculate Total Economic Cost: TEC = EC + IC = $70,000 + $62,500 = $132,500.
- Calculate Economic Profit: EP = TR – TEC = $150,000 – $132,500 = $17,500.
Jane’s coffee shop is earning an Economic Profit of $17,500.
Frequently Asked Questions (FAQ)
What is the difference between Accounting Profit and Economic Profit?
Accounting Profit (TR – EC) only considers explicit costs, while Economic Profit (TR – TEC) considers both explicit and implicit costs. Economic Profit is always less than or equal to Accounting Profit.
Is an implicit cost always a dollar value?
Yes, implicit costs must be quantifiable in monetary terms. They represent the dollar value of the best alternative opportunity forgone.
Why is it important for a business to calculate implicit costs?
Calculating implicit costs is vital for accurate decision-making. If a business has a positive Accounting Profit but a negative Economic Profit, the owner is actually financially better off pursuing their next best alternative (the opportunity cost).
Can Explicit Costs and Implicit Costs be negative?
Costs are typically non-negative. Explicit costs are outlays, and implicit costs are forgone revenues, both of which are treated as positive numbers in the cost calculation.