![]() Utility costs, which increase as production and/or employee headcount increase.ĭirect labor may not be a variable cost if labor is not added to or subtracted from the production process as production volumes change. Piece rate labor, where employees are paid based on the number of units produced.Ĭredit card fees, where a fee is not incurred unless a customer uses a credit card to pay for a purchase. The most common variable costs are as follows:ĭirect materials, since the cost of materials are charged to expense when the associated products are sold.Ĭommissions, since the sales staff earns commissions when sales transactions are completed.īillable labor, since wages associated with billable hours are charged to expense when the associated sales transactions are completed. Related AccountingTools CourseĬost Accounting Fundamentals Types of Variable Costs A company with a high proportion of variable costs can usually generate a profit at a relatively low sales level, since there are few fixed costs that must also be paid for in each accounting period. ![]() The variable cost concept can be used to model the future financial performance of a business, as well as to set minimum price points. A variable cost increases as the level of activity increases for example, the total cost of direct materials goes up in conjunction with increases in production volume. Fixed costs must be incurred, no matter what the activity level of the entity may be, while variable costs are only incurred if there is some amount of activity.A variable cost is a cost that varies in relation to changes in the volume of activity. In most organizations, the bulk of all expenses are fixed costs, and represent the overhead that an organization must incur to operate on a daily basis. Thus, freight out can be considered a variable cost. Freight OutĪ business incurs a shipping cost only when it sells and ships out a product. Only the credit card fees that are a percentage of sales (i.e., not the monthly fixed fee) should be considered variable. Credit Card Feesįees are only charged to a business if it accepts credit card purchases from customers. All types of commissions, including splits and overrides, can be classified as variable costs. Salespeople are paid a commission only if they sell products or services, so this is clearly a variable cost. ![]() Holiday and vacation time would not be classified as a variable cost. However, if they are paid salaries (where they are paid no matter how many hours they work), then this is a fixed cost. If a company bills out the time of its employees, and those employees are only paid if they work billable hours, then this is a variable cost. ![]() Production supplies, such as machinery oil, are consumed based on the amount of machinery usage they vary with production volume, and so can be considered variable costs. Piece rate labor is the amount paid to workers for every unit completed (note: direct labor is frequently not a variable cost, since a minimum number of people are needed to staff the production area this makes it a fixed cost). Since they are only charged to expense if the product is sold, they are considered the most purely variable cost of all. Here are a number of examples of variable costs, all in a production setting: Direct Materialsĭirect materials are the raw materials that go into a product. Prices must be set so that the contribution margin is greater than zero, or else a business will have no opportunity to generate a profit. Contribution margin is calculated as the net sale price of a product, minus all variable costs. Conversely, a high proportion of fixed costs requires that a business maintain a high sales level in order to stay in business in this case, it requires many sales to generate a sufficient profit to offset the fixed costs.Ī further reason why variable costs are important is that they are a prime determinant in calculating the contribution margin of a product. Even at a low sales level, there are few fixed costs to be paid, so the firm can break even or earn a profit. It is useful to understand the proportion of variable costs in a business, since a high proportion means that a business can continue to function at a relatively low sales level. Thus, the materials used as the components in a product are considered variable costs, because they vary directly with the number of units of product manufactured. In a business, the "activity" is frequently production volume, with sales volume being another likely triggering event. ![]() A variable cost is a cost that changes in relation to variations in an activity. ![]()
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