HOW SHOULD MANAGERS

CHOOSE AMONG
DIFFERENT VARIABLE-
COST / FIXED-COST
STRUCTURES
SUBMITTED BY:
ABHIPSA MALLICK – UMG19001
AJIT KUMAR SAMAL – UMG19002
INTRODUCTION
MANUFACTURING
COST
Cost is the value of RELEVANT FIXED
money, used to produce
or deliver a service
In business, the cost DIRECT COST VARIABLE
may be one of
acquisition, in which the
amount of money
expended to acquire it is LABOUR CAPITAL
counted as cost
PRODUCT

1
FIXED COST & VARIABLE COST
FIXED COST
Costs which stay the same over the year
Doesn’t change if the firm sells more goods or makes fewer items
Predetermined expenses
Eg: Rent, Loan Payments, Insurance, Salary
VARIABLE COST
They change over a specified period
Directly associated to the business activity
Based on business performance and service generation
Eg: Operational expenses, Taxes, Direct labor

2
VARIABLE VS FIXED COST IN
DECISION MAKING
Cost structure refers to the types and relative proportions of fixed
and variable costs that a business incurs
To define a cost structure, one needs to define every cost incurred
in relation to cost object
• Product Cost Structure
• Fixed Costs: Direct labour, manufacturing overhead
• Variable Costs: Direct materials, commissions, suplies,
wages
• Service Cost Structure
• Fixed Costs: Administrative overhead
• Variable Costs: wages, payroll taxes, bonuses, TA

3
VARIABLE VS FIXED COST IN
DECISION MAKING
• Product Line Cost Structure
• Fixed Costs: Administrative overhead, manufacturing
overhead, direct labor
• Variable Costs: Direct materials, commissions, production
supplies
• Customer Cost Structure
• Fixed Costs: Administrative overhead for customer service,
warranty claims
• Variable Costs: Cost of products and services sold to the
customer, product returns, credits taken, early payment
discounts

4
FORMULA
Total Variable Cost = Total quantity of output x Variable cost per
unit of output
Example: Cupcakes Raw Direct Total Fixed Total
materials Labour Variable Costs Costs
Let us ($) ($) Costs ($) ($) ($)
consider a
bakery that 0 - - - 500 500
produces 1 5 20 25 500 525
cakes. $5 in 5 25 100 125 500 625
raw
materials, 10 50 200 250 500 750
$20 in direct 20 100 400 500 500 1000
labour. Fixed
50 250 1000 1250 500 1750
costs $500
(equipment)

- Note how the costs change as more cupcakes are produced

5
CVP ANALYSIS
• Cost Volume Profit Analysis
includes the analysis of sales
price, fixed costs, variable
costs, the number of goods sold
and how it affects the profit of
the business
• CVP Analysis helps to
determine the break-even point
for different sales volume and
cost structures
• The management can better
understand the overall
performance and determine
what units it should sell to break
even or to reach a certain level
of profit

6
EXAMPLE
Unit Sold – 6000
A Selling Price - $12 B
Total Costs – 65,000
Profit – 7000

Fixed Cost – High Fixed Cost – Low

Variable Cost – Low Variable Cost – High

Breakeven Sales – 60336 Breakeven Sales – 36996

Breakeven Units – 5,028 Breakeven Units - 3083

As such, Company A needs to sell 63 % more units than Company B to reach

break-even point due to its high fixed cost structure.

7
MANAGERIAL INSIGHTS
Managers should distinguish Fixed from variable cost and then evaluate
how the level of fixed cost and variable cost they choose will affect the
risk return trade offs of their firm

2 options for managers:

If fixed cost is higher, higher the production for breakeven
If variable cost is higher, lesser the production for breakeven

• This means that when making financial projections for a new business,
it's best to keep fixed costs to the barest minimum
• Reduction in the no.of people employed
• Negotiating a reduction in pay levels
• Negotiate a lower rent

• When defining a cost structure, always check the cost attributed to the
key elements of your business operations

8
THANK YOU!