Chapter VI

Cost Behavior Analysis

Reporter: Christopher N. Caritos

Chapter contents

1. Introduction to cost behavior (define cost

behavior and identify variable, fixed and mixed
cost)
2. Identify the types of cost behavior
3. Cost behavior assumptions in management
accounting vs microeconomics.
 1.
Cost behavior —is the manner in which expenses are
impacted
by changes in business activity. A business manager
should be aware of cost behaviors when
constructing the annual budget, to anticipate
whether any cost will spike or decline.
• II. 3 Types of Cost Behavior
• Variable cost- vary in a linear fashion with the production
level. however, when stated on a per unit basis variable cost
remain constant across all production levels within the relevant
range.

• Fixed cost- do not vary with the production level. Total fixed
cost remain the same within the relevant range. However, the
fixed cost per unit decreases as production increases, because
the same fixed cost are spread over more units.

• Mixed cost- if, within a relevant range, a cost are neither fixed
nor variable, it is called semi-variable or mixed.
Example of variable cost:

A good example of variable cost is materials. If one pair of

pants requires $10 of fabric, then every pair of pants requires
$10 of fabric, no matter how many pairs are made. The fabric
cost is $10 per unit at every level of production. If one pair is
made, the total fabric cost is $10. if two pairs are made, the
total fabric cost is $20. if $1000 pairs are made, the total
fabric cost is $10,000. hence, the total cost is increasing and
linear in the production level.
Example of Fixed cost:

• In this example, fixed cost are $50,000. the first chart

shows that fixed cost remain $50,000 at all production
level from 100 units. The second chart shows that the
fixed cost per unit decreases as production increases.
Hence, when 100 units are manufactured, the fixed cost
per unit is $500 (50,000 /100) when 500 units are
manufactured, the fixed cost per unit is $100 ($50,00
/500).
Example of Fixed cost:

• In this example, although the total cost line increases in production. It does
not pass through the origin because there is a fixed cost component.
• An example of a cost that fit this description is electricity. A fixed amount of
electricity is required to run the factory air conditioning, computer and
lights. There is also a variable cost component related to running the
machines on the factory floor. The fixed component in this example is $3000
per month. The variable cost component is $10 per unit of output. Hence, at
a production level of 500 units, the total electric cost is $8000.
• [ $3000+ (10 x 500]
• The mixed cost illustrated in the above chart is call a step
function. An example of such cost behavior would be the
total salary expense for shift supervisors. If the factory
runs one shift, only one shift supervisor is required. In
order for the factory to produce above the maximum
capacity of a single shift. The factory must add a second
shift and hire a second supervisor, so that the total shift
supervisor salary expense doubles. If the factory runs
three shifts, three shift supervisor are required.
 III. Cost Behavior
Assumptions in
Management Accounting
vs Microeconomics
• Microeconomic analysis usually assumes decreasing
marginal cost of production. Sometimes, followed by
increasing marginal cost of production beyond a certain
product level. Hence, economist’s graphs of the total cost of
production and the average per unit cost of production show
smooth, curved functions.
• Management Accountants usually assume the linear
relationship depicted in the previous graphs.
• Linearity is a more accurate descriptions of many situations
encountered by management accountants than the
economists curves, and even when linearity constitute a
simplifying assumptions it is almost always sufficiently
descriptive for the task of hand.