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The Cost Indifference Point

The Cost Indifference Point

A cost indifference point is the point at which total cost (fixed and variable) of two alternatives under consideration is the same. A company may have two methods available for production and it may so happen that at lower levels of activity one method is suitable up to a particular pint and beyond that an0ther method is suitable. The questions arise at what level of capacity choice shifts from one production method to another production method. This point is called cost indifference point and at this point total cost is identical for the two alternatives. Cost indifference point will occur at a point where:

Total Cost of alternative A = Total Cost alternative B

Cost Indifference Point = Differential Fixed Cost / Differential variable cost per unit

Cost Indifference points are useful in analyzing many types of alternative choice decisions such as choosing between alternative production methods, marketing plan or quality control programs.

Cost Indifference Point and Break-even Point – It is necessary to contrast cost indifference point with break-even point. Computation of cost indifference point involves equating total cost of two plans or division of differential fixed cost by differential variable cost. It is the point at which total cost lines under two alternatives intersect each other. At break-even point total cost line and total revenue line for a particular alternative intersect each other. Cost indifference point analysis compares the cost of two alternatives. Break-even analysis compares total cost and total revenue for a single product.

Example:

Alternative A :   Fixed Cost $12000                            Variable Cost $3.5 pu

Alternative B :   Fixed Cost $36000                            Variable Cost $2 pu

Cost Indifference Point = Differential Fixed Cost / Differential variable cost per unit

Cost Indifference Point = 24000 / 1.5 = 16000 units

 

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