1. Calculate Total Cost And Per-Unit Cost © Dale R. Geiger 20111

2. How does total cost change as level of activity changes? © Dale R. Geiger 20112

3. Terminal Learning Objective Task: Calculate Total Cost And Per-Unit Cost For A Given Production Volume Condition: You are a cost advisor technician with access to all regulations/course handouts, and awareness of Operational Environment (OE)/Contemporary Operational Environment (COE) variables and actors. Standard: With at least 80% accuracy: Differentiate between fixed and variable costs Express total and per-unit variable cost in an equation Graph total and per-unit variable cost Express total and per-unit fixed costs in an equation Graph total and per-unit fixed costs © Dale R. Geiger 20113

4. Why Study Cost Relationships? Understanding what drives cost helps to understand how to reduce cost Recognizing cost relationships helps to define what views of cost are useful © Dale R. Geiger 20114

5. What is Cost Relationship? Describes the change in cost that occurs with a change in a variable Examples: As number of students in class increases, total cost of class increases As snowfall increases, cost of snow removal increases As number of miles driven increases, total cost of trip increases © Dale R. Geiger 20115

6. What is Cost Expression? Communicates a cost relationship using verbal, numerical and mathematical symbols Use plain language rather than variables x, y, z, etc. Use math symbols Add (+) Subtract (–) Multiply (*) Divide (/) Example: Cost of hotel stay = Cost per day * # of days © Dale R. Geiger 20116

7. Which Cost Expression is Useful? Sometimes it is useful to know Total Cost Relevant cost of all inputs required to achieve desired output Example: Cost of PCAM = instructor pay + course materials + classroom facilities + students’ pay Sometimes it is useful to know Unit Cost Unit cost = Total cost / # units Example: Cost to train one student © Dale R. Geiger 20117

8. Linear Cost Relationships The simplest cost relationships can be represented by a straight line Variable Costs Variable Costs - Costs that increase in direct proportion with the volume produced or consumed Total variable cost = Upward sloping line Unit variable cost = Horizontal line Example: Cost of materials used increases in direct proportion to number of units produced © Dale R. Geiger 20118

9. Variable Cost Expression Total Variable Cost = Variable $Cost per Unit * # Units Variable $Cost per Unit = Sum of all Variable inputs © Dale R. Geiger 20119

10. Variable Cost Expression Total Variable Cost = Variable $Cost per Unit * # Units Variable $Cost per Unit = Sum of all Variable inputs © Dale R. Geiger 201110

11. Variable Cost Example The Smoky Mountain Inn Bed and Breakfast reports the following cost information: Depreciation on building$60,000 per year Maintenance person’s salary $30,000 per year Cleaning person’s salary $24,000 per year Real estate taxes $10,000 per year Laundry service $4.00 per person per night Food $6.00 per person per night What is the unit of output? Which costs will change as output changes? What is the cost expression for variable cost per unit? For Total Variable Cost? © Dale R. Geiger 201111

12. Variable Cost Example © Dale R. Geiger 201112

13. Variable Cost Example © Dale R. Geiger 201113

14. Variable Cost Example What is the cost expression for variable cost per person per night? $4 laundry + $6 food = $10 per person/night What is the cost expression for Total variable cost? $10 per person per night * # person/nights © Dale R. Geiger 201114

15. Variable Cost Example What is the cost expression for variable cost per person per night? $4 laundry + $6 food = $10 per person-night What is the cost expression for Total variable cost? $10 per person per night * # person-night © Dale R. Geiger 201115

16. Check on Learning What is the definition of a variable cost? What is the generic cost expression for total variable cost? © Dale R. Geiger 201116

17. Graph of Total Variable Cost $ X Axis = Number of units As # units increases, total variable cost increases © Dale R. Geiger 2011 17

18. Graph of Total Variable Cost $ X Axis = Number of units As # units increases, total variable cost increases At 10 units, Cost is $100 © Dale R. Geiger 2011 18

19. Graph of Total Variable Cost $ X Axis = Number of units As # units increases, total variable cost increases At 40 units, Cost is $400 © Dale R. Geiger 2011 19

20. Graph of Total Variable Cost $ X Axis = Number of units As # units increases, total variable cost increases At 75 units, Cost is $750 750 © Dale R. Geiger 2011 20

21. Graph of Unit Variable Cost $ Unit Cost = Total Variable Cost/# Units Unit cost at 10 units = $100/10 units or $10 per unit Unit cost at 10 units = $100/10 units or $10 per unit X Axis = Number of units As # units increases, Unit variable cost remains the same © Dale R. Geiger 2011 21

22. Graph of Unit Variable Cost $ Unit cost at 40 units = $400/40 units or $10 per unit Unit cost at 40 units = $400/40 units or $10 per unit X Axis = Number of units As # units increases, Unit variable cost remains the same Unit Cost = Total Variable Cost/# Units © Dale R. Geiger 2011 22

23. Graph of Unit Variable Cost $ Unit cost at 75 units = $750/75 units or $10 per unit Unit cost at 75 units = $750/75 units or $10 per unit X Axis = Number of units As # units increases, Unit variable cost remains the same Unit Cost = Total Variable Cost/# Units © Dale R. Geiger 2011 23

24. Check on Learning How is Total variable cost represented on the graph? What is the generic cost expression for Variable cost per unit? © Dale R. Geiger 201124

25. Linear Cost Relationships Fixed Costs Fixed Costs - Costs that do not change with the volume produced or consumed Total fixed cost = Horizontal line Unit Fixed Cost is non-linear Example: The cost of the instructor remains the same regardless of the number of students in the class © Dale R. Geiger 201125

26. Fixed Cost Expression Total Fixed $Cost = Sum of all Fixed Inputs Fixed $Cost per Unit = Total Fixed $Cost / # Units © Dale R. Geiger 201126

27. Fixed Cost Expression Total Fixed $Cost = Sum of all Fixed Inputs Fixed $Cost per Unit = Total Fixed $Cost / # Units © Dale R. Geiger 201127

28. Fixed Cost Example The Smoky Mountain Inn Bed and Breakfast reports the following cost information: Depreciation on building$60,000 per year Maintenance person’s salary $30,000 per year Cleaning person’s salary $24,000 per year Real estate taxes $10,000 per year Laundry service $4.00 per person per night Food $6.00 per person per night What is the unit of output? Which costs will NOT change as output changes? What is the cost expression for Total Fixed Cost? For Fixed Cost per Unit? © Dale R. Geiger 201128

29. Fixed Cost Example © Dale R. Geiger 201129

30. Fixed Cost Example © Dale R. Geiger 201130

31. Fixed Cost Example What is the cost expression for Total Fixed Cost? $60,000 depreciation + $30,000 maintenance salary + $24,000 cleaning salary + $10,000 taxes = $124,000 What is the cost expression for Fixed Cost per Unit? $124,000 / # person/nights © Dale R. Geiger 201131

32. Fixed Cost Example What is the cost expression for Total Fixed Cost? $60,000 depreciation + $30,000 maintenance salary + $24,000 cleaning salary + $10,000 taxes = $124,000 What is the cost expression for Fixed Cost per Unit? $124,000 / # person-nights © Dale R. Geiger 201132

33. Check on Learning What is the definition of a fixed cost? What is the generic cost expression for fixed cost per unit? © Dale R. Geiger 201133

34. Graph of Total Fixed Cost At 10 units, Total Fixed Cost is $124,000 X Axis = Number of units As # units increases, Total Fixed cost remains the same © Dale R. Geiger 2011 34

35. Graph of Total Fixed Cost At 40 units, Total Fixed Cost is $124,000 X Axis = Number of units As # units increases, Total Fixed cost remains the same © Dale R. Geiger 2011 35

36. Graph of Total Fixed Cost At 75 units, Total Fixed Cost is $124,000 X Axis = Number of units As # units increases, Total Fixed cost remains the same © Dale R. Geiger 2011 36

37. Graph of Unit Fixed Cost Unit Cost = Total Fixed Cost/# Units X Axis = Number of units As # units increases, Unit Fixed cost decreases At 10 units, Unit Fixed Cost = $124,000/10 units or $12,400 per unit $12,400 © Dale R. Geiger 2011 37

38. Graph of Unit Fixed Cost Unit Cost = Total Fixed Cost/# Units X Axis = Number of units As # units increases, Unit Fixed cost decreases At 40 units, Unit Fixed Cost = $124,000/40 units or $3,100 per unit $3,100 © Dale R. Geiger 2011 38

39. Graph of Unit Fixed Cost Unit Cost = Total Fixed Cost/# Units X Axis = Number of units As # units increases, Unit Fixed cost decreases At 75 units, Unit Fixed Cost = $124,000/75 units or $1,653 per unit $1,653 © Dale R. Geiger 2011 39

40. Check on Learning How is Total fixed cost represented on the graph? How is Unit fixed cost represented on the graph? © Dale R. Geiger 201140

41. Demonstration Problem A vehicle repair shop incurs an average parts cost per repair of $220. Shop rent is $5,000 per month. Staff salaries are $5,000 per month and technicians earn a commission on repairs that averages $200 per repair. Which costs are fixed? Which are variable? What is total cost of 100 repairs? 200 repairs? What is unit cost for 100 repairs? 200 repairs? © Dale R. Geiger 201141

42. Demonstration Problem A vehicle repair shop incurs an average parts cost per repair of $220. Shop rent is $5,000 per month. Staff salaries are $5,000 per month and technicians earn a commission on repairs that averages $200 per repair. Which costs are fixed? Shop Rent $5,000 Staff Salaries 5,000 Total Fixed$10,000 © Dale R. Geiger 201142

43. Demonstration Problem A vehicle repair shop incurs an average parts cost per repair of $220. Shop rent is $5,000 per month. Staff salaries are $5,000 per month and technicians earn a commission on repairs that averages $200 per repair. Which costs are variable? Parts per repair$220 Commission per repair 200 Total$420 © Dale R. Geiger 201143

44. Demonstration Problem A vehicle repair shop incurs an average parts cost per repair of $220. Shop rent is $5,000 per month. Staff salaries are $5,000 per month and technicians earn a commission on repairs that averages $200 per repair. What is total cost of 100 repairs? 200 repairs? Total cost= $420 per repair * # repairs + $10,000 $420 per repair*100 repairs+$10,000 = $52,000 $420 per repair*200 repairs+$10,000 = $85,000 © Dale R. Geiger 201144

45. Demonstration Problem A vehicle repair shop incurs an average parts cost per repair of $220. Shop rent is $5,000 per month. Staff salaries are $5,000 per month and technicians earn a commission on repairs that averages $200 per repair. What is total cost of 100 repairs? 200 repairs? Total cost= $420 per repair * # repairs + $10,000 $420 per repair*100 repairs+$10,000 = $52,000 $420 per repair*200 repairs+$10,000 = $85,000 © Dale R. Geiger 201145

46. Demonstration Problem A vehicle repair shop incurs an average parts cost per repair of $220. Shop rent is $5,000 per month. Staff salaries are $5,000 per month and technicians earn a commission on repairs that averages $200 per repair. What is total cost of 100 repairs? 200 repairs? Total cost= $420 per repair * # repairs + $10,000 $420 per repair*100 repairs+$10,000 = $52,000 $420 per repair*200 repairs+$10,000 = $94,000 © Dale R. Geiger 201146

47. Demonstration Problem A vehicle repair shop incurs an average parts cost per repair of $220. Shop rent is $5,000 per month. Staff salaries are $5,000 per month and technicians earn a commission on repairs that averages $200 per repair. What is unit cost for 100 repairs? 200 repairs? Unit cost = Total cost / # repairs Total @100 repairs $52,000 / 100 repairs = $520 Total @200 repairs $94,000 / 200 repairs = $470 © Dale R. Geiger 201147

48. Demonstration Problem A vehicle repair shop incurs an average parts cost per repair of $220. Shop rent is $5,000 per month. Staff salaries are $5,000 per month and technicians earn a commission on repairs that averages $200 per repair. What is unit cost for 100 repairs? 200 repairs? Unit cost = Total cost / # repairs Total @100 repairs $52,000 / 100 repairs = $520 Total @200 repairs $94,000 / 200 repairs = $470 © Dale R. Geiger 201148

49. Demonstration Problem A vehicle repair shop incurs an average parts cost per repair of $220. Shop rent is $5,000 per month. Staff salaries are $5,000 per month and technicians earn a commission on repairs that averages $200 per repair. What is unit cost for 100 repairs? 200 repairs? Unit cost = Total cost / # repairs Total @100 repairs $52,000 / 100 repairs = $520 Total @200 repairs $94,000 / 200 repairs = $470 © Dale R. Geiger 201149

50. Check on Learning What happens to total variable cost as number of units produced increases? What happens to unit fixed cost as number of units produced increases? © Dale R. Geiger 201150

51. Practical Exercises © Dale R. Geiger 201151