Cost Behavior

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CHAPTER 6
COST BEHAVIOR

TYPES OF COST BEHAVIOR PATTERNS

1. Variable Cost
2. Fixed Cost
3. Mixed / Semi-variable Cost

Cost Structure – the relative proportion of fixed, variable, and mixed costs found within an organization or firm.

1. Variable Cost - its total dollar amount varies in direct proportion to changes in the activity level. Example:
Number of Trucks Radiator Cost per Total Radiator Produced Truck Cost 250 $ 30 $ 7,500 500 30 15,000 750 30 22,500 1,000 30 30,000

Activity Base – a measure of whatever causes the incurrence of variable cost. -sometimes referred to as cost driver.
Most Common Activity Bases:
a. machine hours
b. units produced
c. units sold

Extent of Variable Costs
The number and type of variable costs present in an organization will depend in large part on the organization’s structure and purpose.

Exhibit 6-2
Examples of Costs that
are normally Variable with
respect to Volume
Type of Organization Variable Costs Merchandising Company Cost of Goods (merchandise) sold Manufacturing Company Manufacturing costs: Prime costs: Direct Materials Direct Labor Variable portion of manufacturing overhead: Indirect materials

Lubricants
Supplies
Power
Setup
Indirect Labor
Both merchandising and manu-
facturing companiesSelling, general, and administrative costs
Commissions

Clerical costs, such as invoicing
Shipping costs
Service organizationsSupplies, travel, clerical

True Variable vs Step-Variable Cost
Some Variable Costs behave in a true Variable or Proportionately Variable Pattern. Other Variable costs behave in a Step-Variable pattern.

1.True Variable Cost(proportionately variable)
-The amount used during a period will vary in direct proportion to the level of production activity. Example: Direct materials
2.Step-Variable Cost
-Flexible
-A cost that is obtainable only in large chunks and that increases or decreases only in response to fairly wide changes in the activity level. Example: Indirect Labor
Exhibit 6-3
True Variable versus
Step-Variable

cost cost

Volume Volume
Direct Materials(True Variable)Maintenance Help(Step Variable)

The Linearity Assumption and the Relevant...
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