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Identifying fixed and variable costs

Are these costs fixed, variable or semi-variable? How can we tell? Watch this video to learn how to identify different types of cost in real life.

It’s all very well being able to recognise the different types of costs by looking at a graph – but how do you identify them in real life, just from looking at the numbers? Actually, it’s fairly straightforward, as the Kaplan tutor explains in this video.

The video includes the following table:

Production level January – 1,000 units February – 2,000 units
Material cost $500 $1,000
Labour cost $1,000 $2,000
Factory rent $2,000 $2,000
Electricity bill $700 $900

Fixed, variable or semi-variable?

Are these costs fixed, variable or semi-variable? How can we tell?

  • If the total of a cost doesn’t change as production levels change, then that cost can immediately be classified as a fixed cost.

But what if the total cost does change with production levels? That suggests it’s going to be either a variable cost or a semi-variable cost – but which?

To find out, calculate the cost per unit at both production levels, then compare the results:

Cost per unit = total cost / number of units produced
  • If the cost per unit stays the same despite production levels changing, then it is a variable cost.
  • If the cost per unit changes when production levels change, then it is a semi-variable cost.
The video has an example of calculating these.

How much is fixed and how much is variable?

The video also shows how to work out how much of a semi-variable cost is fixed, and how much of it is variable.

Step 1: Variable cost per unit

Find the variable cost per unit first by looking at the increase in cost from the increase in production:
Variable cost per unit = extra cost / extra units produced

Step 2: Fixed cost

Next find the fixed element, starting with the total variable cost:
Total variable cost = variable cost per unit × units produced
Take this away from the total costs to leave the fixed costs:
Fixed costs = total cost – total variable cost

It’s really important to have a good understanding of costs before we move on, so the next step seems like a good time for a quiz!

This article is from the free online

Budget Forecasting, Costing, and Variances

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FutureLearn - Learning For Life

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