Definition of Fixed cost
A cost that does not vary in the short run, irrespective of changes in any
cost drivers. For example, the rent on a building will not change until the lease
runs out or is re-negotiated, irrespective of the level of business activity within
A cost that is fixed in total for a given period of time and for given production levels.
a cost that remains constant in total within a specified
range of activity
costs that do not change with increases or decreases in the volume of goods or services
produced, within the relevant range.
costs that do not depend on the level of output.
costs that are constant within a defined level of activity but that can increase or decrease when
activity reaches upper and lower levels.
Expenses or costs that remain the same in amount,
or fixed, over the short run and do not vary with changes in sales volume
or sales revenue or other measures of business activity. Over the
longer run, however, these costs increase or decrease as the business
grows or declines. fixed operating costs provide capacity to carry on
operations and make sales. fixed manufacturing overhead costs provide
production capacity. fixed expenses are a key pivot point for the analysis
of profit behavior, especially for determining the breakeven point and for
analyzing strategies to improve profit performance.
An analytical technique for studying the relationships between fixed cost, variable cost, and profits. A breakeven chart graphically depicts the nature of breakeven analysis. The breakeven point represents the volume of sales at which total costs equal total revenues (that is, profits equal zero).
a graph that depicts the relationships among revenues, variable costs, fixed costs, and profits (or losses)
The annual sales volume level at which total contribution
margin equals total annual fixed expenses. The breakeven point is only a
point of reference, not the goal of a business, of course. It is computed by
dividing total fixed expenses by unit margin. The breakeven point is
quite useful in analyzing profit behavior and operating leverage. Also, it
gives manager a good point of reference for setting sales goals and
understanding the consequences of incurring fixed costs for a period.
The sales level at which a company, division, or product line makes a
profit of exactly zero, and is computed by dividing all fixed costs by the average
gross margin percentage.
The point below which the firm will need either to obtain additional financing
or to liquidate some of its assets to meet its fixed costs.
the difference between selling price and
variable cost per unit or in total for the level of activity; it
indicates the amount of each revenue dollar remaining
after variable costs have been covered and going toward
the coverage of fixed costs and the generation of profits
The idea that fixed costs and variable costs react differently to changes in the volume of
the practice of minimizing, to the extent
possible, period-by-period increases in per-unit variable
and total fixed costs
a method of mathematical programming used to solve a problem that involves an objective function and multiple limiting factors or constraints long-term variable cost a cost that was traditionally viewed as a fixed cost
the proportionate relationship between
a company’s variable and fixed costs
The difference in the performance of an actual investment and a desired investment
adjusted for fixed costs and execution costs. The performance differential is a consequence of not being able
to implement all desired trades. Most valuable alternative that is given up.
Overhead generally refers to indirect, in contrast to direct,
costs. Indirect means that a cost cannot be matched or coupled in any
obvious or objective manner with particular products, specific revenue
sources, or a particular organizational unit. Manufacturing overhead
costs are the indirect costs in making products, which are in addition to
the direct costs of raw materials and labor. Manufacturing overhead
costs include both variable costs (electricity, gas, water, etc.), which vary
with total production output, and fixed costs, which do not vary with
increases or decreases in actual production output.
the specified range of activity over which a
variable cost per unit remains constant or a fixed cost remains
fixed in total; it is generally assumed to be the normal
operating range of the organization
A method of costing in which all fixed and variable production costs are charged to products or services using an allocation base.
a cost accumulation and reporting
method that treats the costs of all manufacturing components
(direct material, direct labor, variable overhead, and
fixed overhead) as inventoriable or product costs; it is the
traditional approach to product costing; it must be used for
external financial statements and tax returns
A methodology under which all manufacturing costs are assigned
to products, while all non-manufacturing costs are expensed in the current period.
Accelerated cost recovery system (ACRS)
Schedule of depreciation rates allowed for tax purposes.
A method of costing that uses cost pools to accumulate the cost of significant business activities and then assigns the costs from the cost pools to products or services based on cost drivers.
activity based costing (ABC)
A relatively new method advocated for the
allocation of indirect costs. The key idea is to classify indirect costs,
many of which are fixed in amount for a period of time, into separate
activities and to develop a measure for each activity called a cost driver.
The products or other functions in the business that benefit from the
activity are allocated shares of the total indirect cost for the period based
on their usage as measured by the cost driver.
activity-based costing (ABC)
a process using multiple cost drivers to predict and allocate costs to products and services;
an accounting system collecting financial and operational
data on the basis of the underlying nature and extent
of business activities; an accounting information and
costing system that identifies the various activities performed
in an organization, collects costs on the basis of
the underlying nature and extent of those activities, and
assigns costs to products and services based on consumption
of those activities by the products and services
Activity-based costing (ABC)
A cost allocation system that compiles costs and assigns
them to activities based on relevant activity drivers. The cost of these activities can
then be charged to products or customers to arrive at a much more relevant allocation
of costs than was previously the case.
The actual expenditure made to acquire an asset, which includes the supplierinvoiced
expense, plus the costs to deliver and set up the asset.
actual cost system
a valuation method that uses actual direct
material, direct labor, and overhead charges in determining
the cost of Work in Process Inventory
Agency cost view
The argument that specifies that the various agency costs create a complex environment in
which total agency costs are at a minimum with some, but less than 100%, debt financing.
The incremental costs of having an agent make decisions for a principal.
Aggressive Cost Capitalization
cost capitalization that stretches the flexibility within generally
accepted accounting principles beyond its intended limits, resulting in reporting as assets
items that more reasonably should have been expensed. The purpose of this activity is likely to
alter financial results and financial position in order to create a potentially misleading impression
of a firm's business performance or financial position.
Total costs, explicit and implicit.
cost of a security adjusted for the amortization of any purchase premium or
a quality control cost incurred for monitoring
or inspection; compensates for mistakes not eliminated
through prevention activities
attribute-based costing (ABC II)
an extension of activitybased costing using cost-benefit analysis (based on increased customer utility) to choose the product attribute
enhancements that the company wants to integrate into a product
Average-Cost Inventory Method
The inventory cost-flow assumption that assigns the average
cost of beginning inventory and inventory purchases during a period to cost of goods sold and
Average cost of capital
A firm's required payout to the bondholders and to the stockholders expressed as a
percentage of capital contributed to the firm. Average cost of capital is computed by dividing the total
required cost of capital by the total amount of contributed capital.
costs that are identifiable with and able to be influenced by decisions made at the business
unit (e.g. division) level.
a streamlined cost accounting method that speeds up, simplifies, and reduces accounting effort in an environment that minimizes inventory balances, requires
few allocations, uses standard costs, and has minimal variances
Bankruptcy cost view
The argument that expected indirect and direct bankruptcy costs offset the other
benefits from leverage so that the optimal amount of leverage is less than 100% debt finaning.
A cost that is incurred when a group of products or services are produced,
and which cannot be identified to specific products or services within each group.
a cost that is caused by a group of things
being made, handled, or processed at a single time
a planned expenditure
Capital Cost Allowance (CCA)
The annual depreciation expense allowed by the Canadian Income Tax Act.
capitalization of costs
When a cost is recorded originally as an increase
to an asset account, it is said to be capitalized. This means that the outlay
is treated as a capital expenditure, which becomes part of the total
cost basis of the asset. The alternative is to record the cost as an expense
immediately in the period the cost is incurred. Capitalized costs refer
mainly to costs that are recorded in the long-term operating assets of a
business, such as buildings, machines, equipment, tools, and so on.
Capitalized Cost An expenditure or accrual that is reported as an asset to be amortized against
costs that increase with increases in the level of investment in current assets.
the total variable cost of carrying one unit of
inventory in stock for one year; includes the opportunity
cost of the capital invested in inventory
The cost of holding inventory, which can include insurance,
spoilage, rent, and other expenses.
costs of maintaining current assets, including opportunity cost of capital.
The amount of cash expended.
a cost related either to the long-term investment
in plant and equipment of a business or to the
organizational personnel whom top management deem
permanent; a cost that cannot be changed without longrun
detriment to the organization
company cost of capital
Expected rate of return demanded by investors in a company, determined by the average risk of the company’s assets and operations.
a cost over which a manager has the ability to authorize incurrence or directly influence magnitude
Refers to the sum of manufacturing direct labor and overhead
costs of products. The cost of raw materials used to make products
is not included in this concept. Generally speaking, this is a rough measure
of the value added by the manufacturing process.
the total of direct labor and overhead cost;
the cost necessary to transform direct material into a finished good or service
A resource sacrificed or forgone to achieve a specific objective (Horngren et al.), defined
typically in monetary terms.
the cash or cash equivalent value necessary to attain an
objective such as acquiring goods and services, complying
with a contract, performing a function, or producing and
distributing a product
The expense incurred to create and sell a product or service. If a product is not
sold, then it is recorded as an asset, whereas the sale of a product or service will
result in the recording of all related costs as an expense.
a discipline that focuses on techniques or
methods for determining the cost of a project, process, or
thing through direct measurement, arbitrary assignment, or
systematic and rational allocation
Cost Accounting Standards Board (CASB)
a body established by Congress in 1970 to promulgate cost accounting
standards for defense contractors and federal agencies; disbanded
in 1980 and reestablished in 1988; it previously issued
pronouncements still carry the weight of law for those
organizations within its jurisdiction
the approach to product costing that determines
which manufacturing costs are recorded as part
of product cost
the assignment, using some reasonable basis,
of any indirect cost to one or more cost objects
the practice of finding acceptable alternatives
to high-cost items and/or not spending money for
unnecessary goods or services
An asset’s purchase price, plus costs associated with the purchase, like installation fees, taxes, etc.
The calculation and comparison of the costs and benefits of a policy or project.
cost-benefit analysis the analytical process of comparing the
relative costs and benefits that result from a specific course
of action (such as providing information or investing in a
The net present value of an investment divided by the investment's initial cost. Also called
the profitability index.
a responsibility center in which the manager has
the authority to incur costs and is evaluated on the basis
of how well costs are controlled
A division or unit of an organization that is responsible for controlling costs.
Cost company arrangement
Arrangement whereby the shareholders of a project receive output free of
charge but agree to pay all operating and financing charges of the project.
a company-wide attitude about the topics
of cost understanding, cost containment, cost avoidance,
and cost reduction
The process of either reducing costs while maintaining the same level of productivity or maintaining costs while increasing productivity.
cost control system
a logical structure of formal and/or informal
activities designed to analyze and evaluate how well
expenditures are managed during a period
A method of expensing the cost of a resource consumed by first determining
the total investment in the resource (such as the procurement of a coal mine),
then determining the total amount of extractable resource (such as tons of available
coal), and then assigning costs to each consumed unit of the resource, based on the
proportion of the total available amount that has been used.
The most significant cause of the cost of an activity, a measure of the demand for an activity
by each product/service enabling the cost of activities to be assigned from cost pools to products/services.
a factor that has a direct cause-effect relationship
to a cost; an activity creating a cost
A factor that directly impacts the incidence of a cost, and which is generally
based on varying levels of activity.
cost driver analysis
the process of investigating, quantifying,
and explaining the relationships of cost drivers and
their related costs
cost leadership strategy
a plan to achieve the position in a
competitive environment of being the low cost producer of
a product or provider of a service; it provides one method
of avoiding competition
cost management system (CMS)
a set of formal methods
developed for planning and controlling an organization’s
cost-generating activities relative to its goals and objectives
cost object anything to which costs attach or are related
Anything for which a measurement of cost is required – inputs, processes, outputs or responsibility centres.
An item for which a cost is compiled. For example, this can be a product,
a service, a project, a customer, or an activity.
Cost of capital
The required return for a capital budgeting project.
Cost of capital
The costs incurred by an organization to fund all its investments, comprising the risk-adjusted
cost of equity and debt weighted by the mix of equity and debt.
cost of capital
Refers to the interest cost of debt capital used by a business
plus the amount of profit that the business should earn for its equity
sources of capital to justify the use of the equity capital during the
period. Interest is a contractual and definite amount for a period,
whereas the profit that a business should earn on the equity capital
employed during the period is not. A business should set a definite goal
of earning at least a certain minimum return on equity (ROE) and compare
its actual performance for the period against this goal. The costs of
debt and equity capital are combined into either a before-tax rate or an
after-tax rate for capital investment analysis.
Cost of Capital
The minimum rate of return a company must earn in order to meet
the rate of return required by the investors (providers of capital) of
Cost of capital
The blended cost of a company’s currently outstanding debt instruments
and equity, weighted by the comparative proportions of each one. During a capital
budgeting review, the expected return from a capital purchase must exceed this cost
of capital, or else a company will experience a net loss on the transaction.
Cost of Capital
The discount rate that should be used in the capital budgeting process.
cost of capital (COC)
the weighted average cost of the
various sources of funds (debt and stock) that comprise a
firm’s financial structure
Cost of carry
Related: Net financing cost
Cost of Common Stock
The rate of return required by the investors in the common stock of
the company. A component of the cost of capital.
Cost of Debt
The cost of debt (bonds, loans, etc.) that a company is charged for
borrowing funds. A component of the cost of capital.
Cost of Equity
Same as the cost of common stock. Sometimes viewed as the
rate of return stockholders require to maintain the market value of
the company's common stock.
Cost of funds
Interest rate associated with borrowing money.
cost of goods manufactured (CGM)
the total cost of the
goods completed and transferred to Finished Goods Inventory
during the period
Cost of goods sold
The cost of merchandise that a company sold this year. For manufacturing companies, the cost of raw
materials, components, labor and other things that went into producing an item.
Cost of goods sold
See cost of sales.
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