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    Fixed and Variable Costs

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    Costs can be classified into two categories, fixed and variable costs. These costs behave differently based on the level of sales volumes. Suppose we are running a restaurant and have identified certain costs along with the number of annual units sold of 1000.

    Item: Raw Materials (cost for hamburgers)
    Total Annual Cost: 650
    Item: Building Rent
    Total Annual Cost: 9000
    Identify which cost item above is fixed and variable and why? What is the cost per unit of each? Suppose we increased our sales volume to 6000 units and then to 8000 units the following year (and are still within the relevant range), what would be the total annual cost and unit cost of fixed and variable costs?

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    Solution Preview

    Fixed costs are those costs which do not vary with the volume, while variable costs vary with the volume. In this case, rent is a fixed cost which has to be paid irrespective of the units of hamburgers produced. Raw Material is a variable cost since its value will change with the units of hamburgers.
    The total number of units is 1,000. ...

    Solution Summary

    The solution explains how to classify costs as fixed or variable in a restaurant.