Chapter 14:

Cost Behavior
Learning Objectives
1. Explain the meaning of cost behavior, and define and describe
fixed and variable costs.
2. Define and describe mixed and step costs.
Basics of Cost Behavior
Cost behavior is the foundation upon which managerial accounting
is built.
Cost behavior is the general term for describing whether a cost
changes when the level of output changes.
Costs can be variable, fixed, or mixed.
A cost that does not change in total as output changes is a fixed
cost.
A variable cost, on the other hand, increases in total with an
increase in output and decreases in total with a decrease in
output.
Knowing how costs change as output changes is essential to
planning, controlling, and decision making.
Measures of Output and the Relevant
Range
Fixed and variable costs have meaning
only when related to some output
measure.
A cost driver is a causal factor that
measures the output of the activity
that leads (or causes) costs to change.
Identifying and managing drivers helps
managers better predict and control
costs.
For example, weather is a significant
driver in the airline industry.
Relevant Range and Cost Relationships
The relevant range is the range of output over which the
assumed cost relationship is valid for the normal operations
of a firm.
The relevant range limits the cost relationship to the range of
operations that the firm normally expects to occur.

As this graph
shows, the
concept of the
relevant range
allows
managerial
accountants to
assume a
linear cost
relationship.
Fixed Costs
Fixed costs are costs that in total are constant within the relevant range as
the level of output increases or decreases.
In this example of Colley Computers, notice while the total fixed cost of
supervision remains the same, the unit cost decreases as more computers
are produced.
Discretionary Fixed Costs and Committed
Fixed Costs
Two types of fixed costs are commonly recognized:
discretionary fixed costs and committed fixed costs.
Discretionary fixed costs are fixed costs that can be changed
or avoided relatively easily at management discretion.
Committed fixed costs, on the other hand, are fixed costs
that cannot be easily changed.
Advertising
is a discretionary fixed
cost, because it
depends on a
management decision.
Lease cost
is a committed fixed
cost because it
involves a long-term
contract.
Variable Costs
Variable costs are costs that in total vary in direct proportion to changes
in output within the relevant range.
Variable costs can also be represented by a linear equation.
Total variable costs depend on the level of output.
This relationship can be described by the following equation or graphs:



Total variable costs = Variable rate x Amount of output
Mixed Costs
Mixed costs are costs that have both a fixed and a variable
component. For example, overhead for a company may consist of a
fixed supervisor salary plus the cost of supplies that vary with the
quantity of output produced.
Cornerstone 14-1
Creating and Using A Cost Formula
Cornerstone 14-1
Creating and Using A Cost Formula
(continued)