The total cost per unit is a figure that’s integral to running a good business. If you don’t know how much each service or product costs to produce, how can you actually know what to sell it for and still turn a profit? Thankfully, calculating the cost per unit is pretty simple as long as you know your total expenses.
TL;DR (Too Long; Didn't Read)
Find the cost per unit by adding both fixed and variable expenses, and then dividing the total sum by the number of units produced.
What Is The Cost Per Unit?
The cost per unit is how much money a company spends producing a single unit of a particular product or service. You might also hear this called the cost of goods sold and the cost of sales.
The cost per unit relies on two different types of expenses: fixed costs (the costs that don’t change) and variable costs (the costs that can change from production run to production run).
Variable Vs. Fixed Unit Cost Per Units
Cost per unit uses two figures: the total variable cost and total fixed cost. The fixed unit cost has nothing to do with the volume of units you actually churn out. In other words, if you’re running a t-shirt company, the fixed cost would include things like warehouse space for your stock, salaries, rent and renting equipment like a screen printing press.
Variable unit costs are dictated by the number of units you actually produce. This includes things like per-hour labor and material costs. A variable cost is basically a measure of efficiency. For example, an employee at a screen printing shirt company slowly learns how to better use a printing press. Over the course of six months, he goes from pressing five shirts per hour to 10 shirts per hour. The variable cost per t-shirt lowers because he’s still being paid the same hourly rate.
The easiest way to lower the total manufacturing cost (and thus, the variable cost per unit) is to outsource production to a more efficient manufacturer or find a cheaper supplier.
Cost Per Unit Formula
The formula to determine a unit product cost is simple. Add up all your fixed and variable costs to get the total amount spent on production, then divide that number by the number of units produced.
In the simplest terms, imagine you’re a single person running a DIY t-shirt brand out of a spare bedroom in your home. You outsource your designs and manufacturing. You pay a freelance designer $250 to create the shirt’s graphic and you pay your manufacturer $300 to get 60 t-shirts printed. $300 + $250 equals $550, or the total cost you spent making the batch of 60 shirts. Divide that figure by the total number of shirts (60) and you’ll find that your unit product cost is $9.17 per shirt.
Of course, the example above is oversimplified. Businesses have a lot of expenses to factor into the cost of a unit including things like employee salaries, equipment upgrades, insurance and rent. This example has also excluded fixed costs since production and design were both outsourced (these are generally variable because you may or may not find cheaper contractors next time around). You're also theoretically not paying rent on a spare bedroom you already own.
Why Is Cost Per Unit So Important?
Things like the cost per unit or total variable manufacturing costs don’t just help you figure out how efficient your business is running. They also help you determine a profitable selling price for your products. For example, if you know the cost per unit for a t-shirt is $9, you know you can retail that t-shirt for $18 and make an impressive 50% markup. Without the true cost per unit, a business could fall victim to under-valuing their goods.
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