What is Variable Costing Formula?
Variable Cost formula is quite straightforward and is calculated by dividing the total variable cost of production by the number of the units produced. The variable cost of production primarily includes direct labor cost, direct raw material cost and variable manufacturing overhead which is easily available from the income statement.
Mathematically, it is represented as,
Conversely, this can also be represented as a summation of direct labor cost per unit, direct raw material cost per unit and variable manufacturing overhead per unit. Mathematically, it is represented as,
Explanation of the Variable Costing Formula
The variable costing formula can be calculated in the following five steps:
- Step 1: Firstly, direct labor cost directly attributes to production. The direct labor cost is derived according to the rate, level of expertise of the labor and the number of hours employed for the production. Nevertheless, the cost can be extracted from the income statement.
- Step 2: Secondly, one has to identify the type of material required and then the amount of material to be used in the production of each unit to determine the unit price of those materials. However, the direct raw material cost can also be extracted from the income statement.
- Step 3: Thirdly, identify the other remaining variable part of the manufacturing overhead from the income statement.
- Step 4: Now, determine the most crucial part of the formula which is the number of units that have been produced from the production details annexed with the annual report.
- Step 5: Finally, add up direct labor cost, direct raw material cost, and variable manufacturing overhead and then divide the sum with the number of units produced.
Examples of Variable Costing Formula
Let’s take a few simples to advanced examples to understand Variable Costing Formula
Let us assume that XYZ Limited is a company that manufactures clothes for people of the elite class living in the modern city. The managerial accountant provides the following data, which has been vetted by the financial director of the company, that:
- Raw material per unit of cloth = $10
- Labor cost per unit of cloth = $6
- Fixed cost in total for the period = $500,000 (redundant)
- Salary for Sales team for the period = $250,000 (redundant)
- Other direct costs (variable overhead) per unit of cloth = $4
Therefore, Variable costing formula= Raw material per unit of cloth + Labour cost per unit of cloth + Other direct costs (variable overhead) per unit of cloth
- Variable costing = $10 + $6 + $4
- = $20 per unit of cloth
Let us assume ABC Limited is a manufacturer of mobile phone covers. The company currently has received an order for 1,000,000 mobile covers at a total contract price of $350,000. However, the company is not sure whether the order is a profitable proposition. The following are the excerpts from the entity’s income statement for the calendar year ending in December 2017:
- Raw material = $300,000
- Labour cost = $150,000
- Machinery = $100,000
- Insurance = $50,000
- Equipment = $100,000
- Utilities (fixed overhead) = $40,000
- Utilities (variable overhead) = $150,000
- Number of mobile covers produced = 2,000,000
Now, based on the above information calculation of variable costing will be,
- Variable costing formula= (Raw material + Labour cost + Utilities (variable overhead)) ÷ Number of mobile covers produced
- = ($300,000 + $150,000 + $150,000) ÷ 2,000,000
- = $0.30 per mobile case
- As per the contract pricing, the per unit price = $350,000 / 1,000,000 = $0.35 per mobile case
Therefore, the variable costing is lower than the pricing offered in the contract which means that the order should be accepted.
Variable Costing Formula Calculator
You can use the following Calculator
|Variable Costing Formula =||
Relevance and Use of Variable Costing Formula
It helps a company in the determination of the contribution margin of a product, which eventually aids the break-even analysis that can be conducted to fix the number of units needed to be sold to book a profit.
Further, the application of variable costing in the production and sales of additional units can add to a company’s bottom line in terms of profit because the units would not cost the company any additional fixed cost to produce. Variable costing excludes fixed or absorption costs and hence profit is most likely to increase owing to the money made through the sale of the additional items.
Variable Costing Calculation (with excel template)
Let us assume that PQR is a chocolate factory and has the costs, sales, and production information as per below template.
In below-given template is the data of the chocolate factory.
By using the above-given data we will first calculate the total variable cost.
So the calculation of total variable cost will be-
In the below given excel template, we have used the calculation to find the chocolate factory’s Variable Costing.
So the Calculation will be:-
This has been a guide to Variable Costing Formula. Here we discuss its uses along with simple to advanced practical examples to understand Variable Costing Formula. Here we also provide you with the calculator along with downloadable excel template. You can learn more about Financial Analysis from the following articles –