Cost Behaviour Flashcards
Cost Behaviour
Refers to how costs change in relation to volume or activity.
Some costs vary with volume or operating activity.
Others remain fixed as volume changes.
Some costs exhibit characteristics between these two extremes (mixed costs).
How costs react to changes in level of business activity?
Total variable costs - change when activity changes.
Total fixed costs - remain unchanged when activity changes.
Management Cycle (3 points)
Managers use knowledge of cost behaviour to estimate future costs and the impact of operational changes on future profitability.
Managers use assumptions about cost behaviour in almost every decision they make.
Managers must understand cost behaviour patterns to anticipate cost ramifications of alternatives in order to decide correctly.
Variable Costs
Total costs that change in direct proportion to changes in productive output. (Linear relationship between activity variable and cost.)
Per unit basis
However VC remain constant as volume changes.
Total Variable Cost
Directly proportional to the activity level within the relevant range.
On graph it is the line y=x
Variable Cost Per Unit
Remains the same over wide ranges of activity.
Approximately constant.
On graph it is line y=constant.
Variable Costs Examples
Direct Materials
Direct and Indirect Labour (hourly) - not salary labour (fixed).
Operating supplies - machinery, for services - documents used.
Sales commisions
Variable Costs for retailers
Cost of goods sold
Variable Costs for service organisataions
Supplies and travel
Variable Costs for manufacturers
Direct material, direct labour and variable manufacturing overhead.
Fixed Costs
Costs that remain constant within a relevant range of volume or activity.
Can’t get rid of them easily.
Per unit basis
Fixed costs vary inversely with changes in volume.
Fixed cost per unit
Decreasing exponential graph.
Cost per unit decreases as activity level increases.
Total fixed cost
Remains constant even when the activity level changes within the relevant range.
graph y=constant
y intercept is the fixed cost
Fixed cost examples
Depreciation - Devaluation of assets.
Rent - Can be negotiated over long term and changed.
Supervisory Salaries - Annual fixed.
Auditors fees - Switch and change price long term, doesn’t change with activity.
Activity Base
A measure of the event causing the incurrence of a variable cost - a cost driver.
A variable cost must vary with activity base.
The thing causing the cost to increase.
Cost may be variable w.r.t one activity base but fixed with respect to another.
