1. Fixed and Variable Costs
Unit 2: Economic Principles in Agribusiness
Lesson: EP2

2. Objectives Lesson Objective:
After completing the lesson on fixed and variable costs, students will demonstrate their ability to apply the concept in real-world situations by obtaining a minimum score of 80% on students’ Costs in My Budget activity.
Enabling Objectives:
Recall three characteristics of fixed costs and identity the five types of fixed costs.
Recall two characteristics of variable costs, identity the three types of variable costs, and describe how a variable cost becomes fixed
Define total cost; classify expenses into fixed costs or variable costs; and examine the total cost, fixed cost, and variable cost curves.
Identify the reason for using per-unit costs and represent the equations for average fixed cost, average variable cost, and average total cost.
Identify the difference between short and long run inputs and resources.

3. Key Terms Fixed cost Depreciation Interest Insurance Variable cost
Total cost
Average variable cost (AVC)
Average fixed cost (AFC)
Average total cost (ATC)
Short run
Long run

4. What’s the Cost? Car Cell Phone Garden 100 acres of pasture Cow Dog
Tractor
4-Wheeler
Musical Instrument
Hunting Equipment

5. Fixed Costs
Costs incurred regardless of the level of production of use
Costs that remain constant regardless of level of production
Expenses that have to be paid on a regular basis
Sometimes referred to as ownership or overhead costs

6. “DIRTI Five” Depreciation Interest Repairs (Shelter) Taxes Insurance
The loss of value each year due to wear, age, or obsolescence
Interest
The cost of using money
Repairs (Shelter)
Incurred to slow wear caused by weather and time
Different from depreciation because depreciation costs are related to original investment
Shelter – housing and maintenance
Not all repair costs are fixed – repairs associated with the use of an item are variable costs; repairs required even though an item has not been used are fixed costs
Maintenance done to prevent costly breakdowns would be a fixed cost
Taxes
Property taxes are collected on personal items regardless of whether they have been used
Insurance
A tool to help manage risk

7. Variable Costs
Costs that change in response to the production level or the amount of use
The more an item is used, the more the total variable costs will be

8. Variable Costs in Agribusiness
Labor
Supplies
Advertising
Gasoline
Utilities

9. How Variable Costs Become Fixed
Once an item is bought, its cost becomes fixed
The money is already spent and cannot be spent elsewhere

10. Total cost

11. Total Cost
The total cost of producing any product is the sum of the fixed and variable costs.
TC = FC + VC

12. Classification of Costs
Fixed Costs
Depreciation
Interest
Taxes
Insurance
Repairs
Variable Costs
Inventory
Salaries
Payroll expenses
Supplies
Advertising
Miscellaneous
Telephone
Utilities
Principal payment
Gasoline and oil

13. If we were to open an agribusiness such as a farm supply store, what total costs may I incur?

14. Cost Relationship Graph
Total fixed costs stay the same at all levels of production
Total variable costs are represented by a curved line because these costs change with different levels of production
The distance between the total variable cost curve and the total cost curve is the same at all levels of production
Total cost is equal to variable costs plus fixed costs, so since fixed costs do not change, the distance between the curves is constant.

15. Per-Unit Costs
Very helpful in making business decisions because the manager is more easily able to compare different situations
Used because they reduce the values to equal units such as tons, acres, or bushels.
Businesses want a low per-unit cost in relation to the units they are selling

16. Average Variable Cost Total variable cost divided by the quantity
AVC = TVC Q

17. Average Fixed Cost Total fixed cost divided by the quantity AFC = TFC

18. Average Total Cost
Total fixed cost plus total variable cost divided by the quantity
ATC = TFC + TVC = TC
Q Q

19. A local business can produce up to 7 widgets per hour
A local business can produce up to 7 widgets per hour. The partially completed table below shows some of their cost data. Complete the cost table to answer the questions below. Round numbers to the nearest tenth.
Quantity
Total Cost
Fixed Cost
Variable Cost
Average Total Cost
Average Fixed Cost
Average Variable Cost
Marginal Cost xx 1 A 8 2 46 16 3 9 F 4 B D 11 5 80 E 6 66 C 7
16.3

20. A local business can produce up to 7 widgets per hour
A local business can produce up to 7 widgets per hour. The partially completed table below shows some of their cost data. Complete the cost table to answer the questions below. Round numbers to the nearest tenth.
Quantity
Total Cost
Fixed Cost
Variable Cost
Average Total Cost
Average Fixed Cost
Average Variable Cost
Marginal Cost 30 xx 1 38
A 30 8 2 46 16 23 15 3 57 27 19 10 9
F 11 4
B 68 17
D 7.5
9.5 11 5 80 50 6
E 10 12 96 66
C 16 7
114 84
16.3
4.3 18

21. Per-Unit costs can also be used to make business decisions

22. Dan is a manager of a large feedlot
Dan is a manager of a large feedlot. He is presently buying corn to use in the operation and paying an average of $6.00 per bushel. His company has the chance to buy 320 acres of land located adjacent to the feedlot that would be ideal for planting corn. Dan has been asked to analyze the fixed and variable costs involved in planting and harvesting corn and to determine if it would be feasible for the company to buy the land to supply corn to the feedlot. Dan figures that fixed costs on the land and equipment per year will be $37,200 whether the company plants one acre or all 320 acres. After talking to other producers in the area, Dan decides that he can anticipate an average of 130 bushels of corn per acre with variable costs of $120 per acre. Dan must figure per-unit costs of planting corn in order to make an educated decision on whether or not the company should buy the land and plant corn.

23. Average Variable Costs
AVC = TVC Q
AVC = 120 = .92
130
Average variable cost is $0.92 per bushel.

24. Average Fixed Costs AFC = TFC Q
Dan estimates the total fixed cost at $37,200. He begins by calculating the average fixed cost if the company decides to plan all acres ($37,200/320 acres).
Total fixed cost per acre is: $116.25
AFC = = .89
130
Average fixed cost is $0.89 per bushel
If the company planted fewer than 320 acres, the total fixed cost per acre would be higher.

25. Average Total Cost ATC = TVC + TFC Q ATC = 120 + 116.25 = $1.82 130
The average total cost is $1.82 per bushel.
Dan knows as long as corn prices are higher than $1.82 a bushel, the company will be saving money by buying 320 acres and planting corn.

26. Short Run – Long Run

27. Short Run vs. Long Run Short Run
Period during which certain inputs or resources are fixed and some are variable
Only those inputs considered to be variable may be changed
livestock medicine
number of hours worked,
feed ingredients
amount of gas used
amount of greenhouse supplies used
Fixed resources cause the number of alternatives to be limited by being locked into certain uses
In order to minimize losses, business should continue in the short run as long as all variable costs are being met.
Long Run
All resources are variable, and there are no fixed costs
Encompasses long-range planning for future needs
Should business expand?
Does it need more or less land?
What are the equipment and facility needs?
In the long run, returns must exceed total costs for the business to survive.

28. Conclusion
A business manager should consider two types of costs. These costs have direct effects on business decisions.
In the short run, these costs can be classified as fixed or variable.
Variable costs are very important because as long as managers can meet these costs, they will continue to operate.
In the long run, all costs are variable and will have to be met for the business to succeed.

29. Fixed and Variable Cost Review
What are three characteristics of fixed cost?
What are two characteristics of variable cost?
What are the “DIRTI Five?”
Name three examples of variable costs
What is the equation for total cost?
How are the total cost, variable cost, and fixed cost curves related?

30. Fixed and Variable Cost Review cont.
Why do business managers figure per-unit cost?
What is average fixed cost?
What is average total cost?
What is average variable cost?
Identify two characteristics of short run inputs or resources.
Identify two characteristics of long run inputs or resources.

31. Exit Cards What did you learn today about fixed and variable costs?
What questions do you still have about fixed and variable costs?