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Fixed Cost
Definition:
Fixed costs are expenses that do not vary with changes in the volume of production or sales. They are costs that remain constant regardless of the company’s activity level.
Examples:
- Rent
- Depreciation
- Interest expense
- Salaries of fixed staff
- Depreciation of equipment
Characteristics:
- Invariable: Do not change with variations in production or sales volume.
- Irrecoverable: Cannot be recovered through sales revenue.
- Examples: Lease payments, rent, depreciation, and some interest expenses.
- Category: Indirect costs.
- Accounting treatment: Expensed in the period they are incurred.
Formula:
Fixed costs = Total fixed costs
Example:
A company has fixed costs of $10,000. If it produces 10,000 units, the fixed cost per unit will be $10,000/10,000 = $1.00.
Benefits:
- Provides a constant base for budgeting and cost control.
- Helps to stabilize earnings per share.
- Can be used to calculate break-even point.
Drawbacks:
- Can limit flexibility if production or sales volume changes significantly.
- Can make it difficult to forecast future costs accurately.
- Can be volatile if there are changes in prices or exchange rates.