Differences between value of output and value added of a product are as follows:
(i) Value of Output:
The goods and services produced by an enterprise during an accounting year constitute its output.
(Output is also called gross output because output includes depreciation.) Value of output is the market value of all the goods and services produced by an enterprise during an accounting year.
(Mind, value of output means value of gross output at MP unless stated otherwise.) Money value of output of an enterprise is obtained by multiplying its physical output of goods and services with its market price.
Thus, it is equal to the quantity of output produced multiplied by its market price per unit. Since output is evaluated at the prices prevailing in the market, therefore, it is called value of output at market price. For example, if a shoe making enterprise produces 1,000 pairs of shoes annually and sells [email protected] Rs175per pair, the value of its output will be Rs 1,75,000(= 1,000 x 175).
Value of Output = Quantity of output x Price
Alternatively, value of output can be expressed as sum of sales and change in stock because output is either sold or accumulated as unsold stock.
Value of Output = Sales + Change in stock
Mind, Value of output (here, Rs 1, 75,000) is not the actual contribution of the enterprise in the production process because this amount includes also the value of intermediate goods (like leather, nails, polish, etc.) which the enterprise has purchased from other producing units for manufacturing shoes.
In short, the value of output is money value of (i) gross output calculated at (ii) market prices.
(ii) Value added:
It refers to the addition of value to the raw material (intermediate goods) by a firm by virtue of its productive activities. Alternatively, value added is defined as contribution of an enterprise to the current flow of goods and services. It is the difference between value of output and value of intermediate inputs.
The contribution of a firm to national income is value added by it and not its value of output because value of output includes value of intermediate inputs purchased from other firms. Thus, value added is firm’s contribution to the flow of final goods and services produced by it during a period of account.
For production of goods and services, a firm uses two types of inputs actor inputs (services of land, labour, capital, enterprise) and nonfactor inputs (i.e., intermediate goods or raw material). A firm purchases intermediate goods from other firms and hires factor services to produce goods and services.
During production process, raw material purchased from other firms is completely used up. Thus, a firm merely adds value to intermediate goods when it transforms intermediate inputs into final goods (output) with the help of factors of production. This is called value added by a firm.
For instance, let us presume that a bakery buys intermediate inputs (milk, flour, sugar, etc.) worth Rs 2,000 and sells its output for Rs 2,500. In this case, value added by the bakery in production of biscuits is Rs 500 (= 2,000 – 1,500).
This is contribution of the bakery in the production of biscuits. Hence, to find out value added by a firm, value of intermediate inputs (i.e., intermediate consumption) should be deducted from value of firm’s output because intermediate inputs are not produced by it but purchased from some other firms.
Value added = Value of output – Intermediate consumption
Simply put, excess of value of output over value of intermediate inputs purchased from other enterprises is called value added. The difference between value of output and value added is intermediate consumption.
(iii) Distinction between value of output and value added:
The difference between value of output and value added is intermediate consumption which is included in value of output but excluded from value added. Intermediate consumption means expenditure incurred on secondary inputs like raw material, power, etc. by a producing unit.
Let us consider the following simple example to make the difference clear. For the sake of simplicity, let us assume that in a hypothetical economy there are only three producing units, namely, the farmer who produces wheat, the miller who grinds the wheat into flour and the baker who manufactures bread from the flour.
Suppose, the farmer produces 100 kg of wheat assuming zero cost of inputs and sells the same to the miller @ Rs 5 per kg. The miller grinds the wheat into flour and sells to the baker @ Rs 6 per kg. The baker prepares bread from the flour and sells the same to the consumer @ Rs 8 per kg.
The value of output and the value added by each producing unit is as follows:
Value of output = Output x Price
By the farmer = 100 kg of wheat x Rs 5 per kg = 500
By the miller = 100 kg of flour x Rs 6 per kg = 600
By the baker = 100 kg of flour x Rs 8 per kg = 800
Value Added = Value of Output – Intermediate consumption:
By the farmer = 500-Zero = Rs 500
By the miller =600-500 = Rs 100
By the baker =800-600 = Rs 200
Total value added Rs 800
In the above example, we find that the value of output of three producers is Rs 1,900 whereas value added by them is Rs 800. Clearly the producers have generated an income of Rs 800 and not Rs 1,900 because the latter includes value of wheat thrice and value of flour twice.
Obviously, there is always possibility of double counting if value of intermediate consumption is not excluded from value of output. Thus, the amount of Rs 800 and not Rs 1,900 will be considered as national income of our assumed economy with only three producing units.
The above simple example is based on the assumption that there is neither depreciation nor there are net indirect taxes. In other words, value added of Rs 800 by the said three producing units is actually their ‘net value added at factor cost’.