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Fixed and Variable Costs - Essay Example

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1. Fixed cost is that cost that does not change significantly with the change in the level of activity. Examples of fixed cost include interest expense, salaries and expenses of the employees or executives, property taxes and insurance protection.
Variable cost is that cost that cost which changes with the change in the level of activity…
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Fixed and Variable Costs
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Week 3 DQ's Fixed cost is that cost that does not change significantly with the change in the level of activity. Examples of fixed cost include interest expense, salaries and expenses of the employees or executives, property taxes and insurance protection.
Variable cost is that cost that cost which changes with the change in the level of activity. For example if the company is producing more aero planes then more amount of raw material will be required to make the planes (Leslie 1993). Examples of variable cost include raw material, labor cost.
There are some costs which include both the fixed and variable element in it and are referred to as semi variable costs. Examples of semi variable costs include electricity expense, telephone expense. In one broad category of Over head expenses, these costs are collectively shown for example depreciation of machinery as well as the heating and lighting cost. Electricity cost is a semi-variable cost because there is a fixed charge and then on any unit we use we are charged an additional amount. So this additional amount is the variable cost and the fixed charge is the fixed cost. Semi variable cost stays constant for a certain time period and then it goes to a higher cost at a specific increased volume (Leslie 1993).
For analysis purpose, the fixed part is separated from the variable part and both are written separately so that proper analysis can be done and so the company should know as to how much is their fixed cost and how much is variable.

2. A company's break-even point is its sales volume at which its total costs equal its total revenues. This means that at the break-even point, the company is making neither any profit nor any loss. If a company is operating below its break-even point it would not be able to exist in the long run as its costs (fixed and variable) would not be covered by the revenues (Susan 2008) . If the company is operating above the breakeven point, then it will be earning profits and at least be able to cover its fixed and variable cost. Break-even point can be calculated using the following formula:
Break-even sales (units) = (Fixed cost + Target operating income)/Unit contribution margin
Break-even sales (Dollars) = (Fixed cost + Target operating income)/contribution margin ratio
Unit contribution margin = Unit sales price - Variable cost per unit
Contribution margin ratio = (Unit sales price - Variable cost per unit)/Unit sales price
With this calculation, a company can better be able to make decisions about how much do they need to sell to at least cover their fixed and variable cost. Contribution margin is that amount of money which contributes to the fixed cost and its profits after deducting the variable cost (Susan 2008). In break-even calculation, if the cost (variable) of a product for example increases, then the unit contribution margin will decrease and therefore according to the formula, the breakeven sales in units as well as in dollars will increase. And the opposite can happen if the cost of the product decreases. (In this example we are making the assumption that the cost is changing but not the selling price).

Works Cited

Leslie Chadwick (1993) Management Accounting. Routledge

Susan Ward (2008) Break Even Analysis. Retrieved March 12, 2008, from Break Even Analysis-Fixed Costs Variable Costs Website: http://sbinfocanada.about.com/cs/startup/g/breakevenanal.htm Read More
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