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Cost behaviour

Grouping costs is by the way those costs are affected by the business’ activity level. Watch this video to learn more.

As the video explains, one other way of grouping costs is by the way those costs are affected by the business’ activity level. Essentially, as the business produces more units, do those costs increase or stay the same?

A graph with costs on the y (vertical) axis and activity level on the x (horizontal) axis. A horizonal line shows that as activity level increases costs stay the same. Fixed costs are just that – fixed at one level. They are unaffected by output levels of the business. An example is the annual rent paid on a factory: the rent stays the same no matter how many units the business produces.

A graph with costs on the y (vertical) axis and activity level on the x (horizontal) axis. A line on the graph is shaped like steps: as activity level increases costs stay the same up to a point - then they step up to the next level. This pattern repeats over a number of steps. Stepped fixed costs are fixed up to a certain activity level, above which they “step up” a level. An example is having to open a new factory once production has reached a certain level, which would increase fixed costs.

A graph with costs on the y (vertical) axis and activity level on the x (horizontal) axis. A diagonal line runs from the bottom-left corner where costs and activity are both zero, up to the top right corner where costs are activity are both high. This shows that as activity increases so do costs. Variable costs vary and are not fixed – as production increases, so do variable costs. An example is materials – the more units produced the more materials are used.

A graph with costs on the y (vertical) axis and activity level on the x (horizontal) axis. A diagonal line runs from the middle-left where costs are medium and activity is zero, up to the top right corner where costs are activity are both high. This shows that costs are fixed at a certain level but they also increase as activity increases. Semi-variable costs are fixed to a point and then variable. An example is a phone bill which has a standard cost each month but then increases if you use extra minutes or data.

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Introduction to Business Budgeting

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