Variable costs and fixed costs are two types of costs that are important to understand in managerial accounting. Here is an explanation of each:
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Variable Costs:
Variable costs are costs that vary with the level of production or sales. In other words, as the production or sales level increases, variable costs also increase, and vice versa. Examples of variable costs include raw materials, direct labor costs, commissions, and shipping costs.
Variable costs can be calculated using the formula: Total Variable Costs = Unit Variable Cost x Number of Units Produced or Sold. Unit variable cost is the cost of producing one unit of product or service, and it includes only the costs that vary with the level of production or sales.
Fixed Costs:
Fixed costs are costs that remain constant regardless of the level of production or sales. These costs do not vary with the changes in production or sales levels. Examples of fixed costs include rent, salaries, insurance, property taxes, and depreciation of fixed assets.
Fixed costs can be calculated using the formula: Total Fixed Costs = Fixed Cost per Unit x Number of Units Produced or Sold. Fixed cost per unit is the total fixed cost divided by the number of units produced or sold.
Understanding the difference between variable costs and fixed costs is important for businesses to make informed decisions about pricing, production levels, and profitability. By analyzing their cost structure, businesses can determine their breakeven point and the level of sales required to generate a profit.