What is Semi-Variable Cost?
Those costs that include the element of both fixed cost and variable cost are semi-variable costs. In short, these costs are partly fixed and partly variable in nature. These are a kind of mixed or hybrid costs. The alternate term for semi-variable cost is semi-fixed cost. Such costs neither vary proportionately nor remain stationary. Depreciation, supervision costs, etc are some examples of semi-variable costs.
As it contains a fixed element, below which it is not going to fall, irrespective of the activity level. On the other hand, the variable element in it keeps on changing. The change may be at a constant rate or in lumps. It can be said that this cost is partly influenced by the fluctuations in the activity level.
Moreover, these costs vary in total along with changes in the direct proportion of output. However, due to its variable element, it changes with volume. Also, they change in the same direction of output, but the proportion will be different.
We can segregate these costs into fixed and variable. In addition, the variable portion of the semi-variable cost is added to other variable costs while its fixed portion is included in other fixed. And this is how semi-variable costs are treated.
Here we will discuss some common examples of semi-variable costs:
If a telephone connection is there in the office, there is a minimum charge that the firm has to pay every month. And, beyond a certain number of calls, the charges differ depending on the number of calls. Suppose the annual rental is Rs. 500 and for every call made by the firm the charges are Re. 1 per call. So we could say that the annual rental is the fixed part that does not change, but the calls made constitute the variable element that changes according to the usage.
With this example, one can easily understand that no specific pattern is there in the behavior of semi-variable cost.
The second example of semi-variable cost is the expenditure on maintenance which is fixed to a substantial degree but if production rises above a certain limit, further expenditure on maintenance will be required. However, the increase in the expenditure will not be in the proportion of rise in the production volume.
We will take one more example of depreciation. If the factory output is doubled, the depreciation on machinery would not normally increase in the same proportion. This is because it will increase by 50% only as the amount of depreciation is because of two reasons i.e. effluxion of time and wear and tear. The portion of depreciation that is due to the effluxion of time is considered fixed whereas that portion of depreciation that is due to wear and tear is variable.
Types of Semi-Variable Cost
- Expenses which vary according to the change in the volume of output, but the variable cost is less as compared to the proportionate change in output.
- Costs that tend to remain fixed within a specific range of output, but then move up and remain constant for another range and so on.
Segregation of Semi-Variable Costs
The primary aim of segregating costs into fixed and variable is to assist the management of the enterprise in decision making and controlling expenditure. To classify the semi-variable cost into fixed and variable a number of methods are used. These methods are:
- High and Low Points method
- Graphical Method
- Analytical Method
- Level of Activity Method
- Least Square Method
Need for segregating Semi-variable cost
- Effective control of cost: Fixed costs by nature are either policy costs or discretionary costs. These can be controlled by the management. However, at lower levels, variable costs can be controlled. As we segregate these costs, management can fix responsibility, prepare an overhead budget, and exercise control.
- Decision Making: The segregation of costs into fixed and variable is important in managerial decision-making with regard to capacity utilization.
- Preparing Break-Even Chart: Break-Even Point is that point where the company is in no profit no loss. Classification of cost is important to understand the cost volume profit relationship and to prepare breakeven charts and profit charts.
- Marginal Costing: The fundamental requirement of marginal costing is a classification of cost into fixed and variable. Variable cost is considered to determine Marginal Cost and contribution. Whereas there is a separate treatment of fixed cost.
- Flexible Budget: When a flexible budget is prepared, the budgeted amount varies with the activity level and the fixed cost remains fixed. It is the variable cost that fluctuates. Therefore, variable cost is important for the purpose of variance analysis.
In a nutshell, semi-variable costs are the costs a part of which is fixed up to a certain extent while the other part is variable, i.e. changes with the change in production volume. However, the proportion may be different.