Is the company correct in its decision of not manufacturing standard model compressors on Sundays? Why? Show your calculations. Decision making should be based on change of RELEVANT items ONLY…..
Fixed Costs to Variable Costs
This paper seeks to write a reply to a friend with answers to her questions whether Claire’s Antiques should work to convert the fixed costs to variable cost and whether the proposal is good or bad. This paper will also identify the types of costs that Claire’s Antiques would incur as fixed costs. Fixed cost are costs that remain fixed regardless of the level of production within a relevant range. Variable costs on the other hand vary with levels of production (Atkinson, 2005 ). Examples of variable costs are the costs of raw material and direct labor, since they have to vary or change with the change of production level.
Fixed costs are normally associated with some portion of factory overhead like the depreciation of the building and the salary of the plant or production manager who must be paid whether or not there is production for a given period (Meigs, Meigs & Meigs, 1995). To argue therefore that fixed cost should be converted into variable cost would sound difficult if not impossible to happen since the nature of cost for defining them is determined whether they could be incurred if the company changes the level of production.
Assuming fixed costs are converted into variable costs, it would be sounding as if the company would not produce for a certain period that it would not be incurring any cost. Such would sound ridiculous because the plant manager may not agree with it since he or she is paid monthly and it could be that he or she is faultless why production could not be done. Similarly assuming production equipments are already purchased and they are used in production, the passage of time to determine their depreciation by obsolescence cannot be stopped (Meigs, Meigs & Meigs, 1995).
I would therefore advise my friend that the suggestion could not be done for Claire’s Antiques. From the list of costs enumerated, it would appear that the other costs allocated on a per unit basis are fixed cost since they are just allocated and implying a group of costs that management would just allocate for each unit produced. As explained earlier said fixed costs do not vary with the production level but even if there are no units produced for the month it does not mean that no fixed costs are incurred for the period (Atkinson, Anthony, et al, 2005).
The cost for various components parts , packaging, etc. , production labor and sales commission are properly falling under variable costs and therefore they could not be classified as fixed cost. Given the difficulty or impossibility of conversion of fixed cost into variable, Claire’s Antiques should be advised to operate at least in any period at break-even point, which is the point at which the company’s contribution margin could equal or at least cover the amount of fixed costs that are inevitably incurred (Atkinson, 2005).
Thus, not to operate without any good reason would amount to incurring fixed costs already and would not be good for the company. The situation of Claire’s Antiques would require the company to classify its costs into variable and fixed cost to be able to plan more effectively. Case facts say that the company cannot always predict the market and producing above or below the actual demand for its products could cause losses for the company.
For the company to avoid selling its products at discount after wards in case of overproduction it should know its breakeven point but before this is possible, it needs to properly classify its fixed costs from variable costs. References: Atkinson, A. , et al (2005), Management Accounting, Person Custom Publishing, New Jersey, USA Case Study – Claire’s Antiques Meigs, R, Meigs, W. , & Meigs, M. (1995) Financial Accounting, McGraw-Hill, New York, USA