In any production process, manufacturers incur a variety of costs. Cost accountants and managers usually split these costs into two main categories: variable costs and fixed costs.
Variable costs are production costs that change in proportion to the amount of goods that are produced. In other words, for every good that is produced, variable costs increase by the same amount. A good example of variable costs for a piano manufacturer is the cost of piano keys. Every piano that is produced has to have a set of piano keys that costs $250. This means that every time a piano is produced, variable costs go up $250 because an additional set of piano keys must be purchased. If 100 pianos were produced the piano keys variable cost would be $25,000. If only 10 pianos were produced, the piano keys variable costs would only be $2,500. The total variable costs fluctuate with the amount of pianos that are produced.
Fixed costs, on the other hand, do not fluctuate with the production levels. Fixed costs are always the same. A good example of a fixed cost is rent. It doesn't matter whether the piano manufacturer makes 10 pianos or 100 pianos, the rent expense will always be the same.
Notice that the piano company producing fewer pianos can decrease variable costs, but lower levels of production cannot decrease fixed costs. This means that variable costs could be decreased to zero or completely eliminated if production ceased. Fixed costs, however, would still remain the same even at a production level of zero.
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