Engineering Costs Fixed costs The costs that do not change during the time horizon of the study. They may relate to the constant costs of equipment, utilities, rent, etc. Constant, independent of the output or activity level. Examples: Property taxes, insurance Management and administrative salaries License fees, and interest costs on borrowed capital Rental or lease

Example

Equipment cost stays the same regardless the level of output once the plant has been designed to produce at a certain level.

 

Engineering Costs

Variable costs

Costs that vary during the time horizon of the study. Over the long-term all costs are variable.

Depends on the level of output or activity.

Proportional to the output or activity level.

Example:

Direct labor cost

Direct materials

A manufacturing plant that assembles television sets has variable output volume from 200 sets to 350 sets a day. The building for both manufacturing and warehousing has an area of 80, 000 square feet. It employs about 250 people. It produces all of the components that go into the assembly.

An example for variable cost in the plant is —————.

A) Building cost

B) Equipment Cost

C) Labor Cost

D) Property Taxes

 

Labor cost depends on the output level

Example

 

Relevant Formulae

Total Variable Cost = Unit Variable Cost * Quantity

TVC = VC * Q

Total Cost = Total Fixed Cost + Total Variable Cost

TC = FC + VC * Q

Total Revenue = Unit Selling Price * Quantity

TR = SP * Q

where TVC = Total variable cost

VC = Variable cost per unit

Q = Production/Selling quantity

FC = Total Fixed costs

TR = Total revenue

SP = Selling price per unit

Example

A company produces a single, high-volume product.  One year its production volume was 780,000 units, its fixed costs were $3.2 million and its variable costs were $16 per unit.  What was the company’s total cost for the year?

A) $3,200,000

B) $3,200,016

C) $12,480,000

D) $15,680,000

8

TVC = 780,000 x 16 = $12,480,000

FC = $3.2M

TC = FC+TVC = $15,680,000

Breakeven Analysis

Breakeven point: The level of business activity at which the total costs to provide the products (goods), or services are equal to the revenue generated. That is:

Total costs = Total revenue

Total costs = Total fixed costs + Total variable costs

Applications of Breakeven analysis:

Determining minimum production quantity

Forecast production profit / loss