![]() They also know the price at which they sold each plane and the profit the company made on each sale. Moreover, they know how those costs would change if they produced more airplanes or fewer. Boeing is, simply put, a massive enterprise.Īnd yet, Boeing’s managers know the exact cost of everything the company uses to produce its airplanes: every propeller, flap, seat belt, welder, computer programmer, and so forth. Its main assembly line in Everett, WA, is housed in the largest building in the world, a colossal facility that covers nearly a half-trillion cubic feet. It employs around 200,000 people, and it’s indirectly responsible for more than a million jobs through its suppliers, contractors, regulators, and others. The Boeing Company generates around $90 billion each year from selling thousands of airplanes to commercial and military customers around the world. If you’ve ever flown on an airplane, there’s a good chance you know Boeing. Examples of cost drivers are direct labor hours, machine hours, units produced, and units sold. Table 6.7 provides examples of variable costs and their associated cost drivers. A cost driver is defined as any activity that causes the organization to incur a variable cost. For each variable cost, there is some activity that drives the variable cost up or down. Typical costs that are classified as variable costs are the cost of raw materials used to produce a product, labor applied directly to the production of the product, and overhead expenses that change based upon activity. A variable cost is one that varies in direct proportion to the level of activity within the business. In addition to understanding fixed costs, it is critical to understand variable costs, the second fundamental cost classification. These classifications are generally used for long-range planning purposes. Both of these costs could potentially be postponed temporarily, but the company would probably incur negative effects if the costs were permanently eliminated. Examples could include advertising campaigns and employee training. An example would be the lease of factory equipment for a production company.ĭiscretionary fixed costs generally are fixed costs that can be incurred during some periods and postponed during other periods but which cannot normally be eliminated permanently. These classifications are generally used for long-range planning purposes and are covered in upper-level managerial accounting courses, so they are only briefly described here.Ĭommitted fixed costs are fixed costs that typically cannot be eliminated if the company is going to continue to function. Two specialized types of fixed costs are committed fixed costs and discretionary fixed costs. In other words, fixed costs remain fixed in total but can increase or decrease on a per-unit basis. Tony’s information illustrates that, despite the unchanging fixed cost of rent, as the level of activity increases, the per-unit fixed cost falls. Fixed versus Variable CostsĪ fixed cost is an unavoidable operating expense that does not change in total over the short term, even if a business experiences variation in its level of activity. Table 6.6 illustrates the types of fixed costs for merchandising, service, and manufacturing organizations.įigure 6.25 Individual Rent Cost per T-Shirt Produced By: Rice University Source: Openstax CC BY-NC-SA 4.0 Because fixed and variable costs are the foundation of all other cost classifications, understanding whether a cost is a fixed cost or a variable cost is very important. The costs that don’t fall into one of these three categories are hybrid costs, which are examined only briefly because they are addressed in more advanced accounting courses. Understanding different cost classifications and how certain costs can be used in different ways is critical to managerial accounting.Īny discussion of costs begins with the understanding that most costs will be classified in one of three ways: fixed costs, variable costs, or mixed costs. In fact, a single cost, such as rent, may be classified by one company as a fixed cost, by another company as a committed cost, and by even another company as a period cost. In practice, the classification of costs changes as the use of the cost data changes. For instance, a manager may need cost information to plan for the coming year or to make decisions about expanding or discontinuing a product or service. Different decisions require different costs classified in different ways. In managerial accounting, different companies use the term cost in different ways depending on how they will use the cost information. Now that we have identified the three key types of businesses, let’s identify cost behaviors and apply them to the business environment. ![]()
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