Variable cost changes in direct proportion to changes in the level of activity (cost driver).

Direct materials and direct labor costs are generally classified as variable costs. Variable costs are the same per unit, while the total variable costs changes in proportion to the changes in the cost driver (activity base).

Let us return to our example of valve production. Each valve will require a component part (raw material, variable cost). Component parts are purchased from outside suppliers for $10 per part. Friends Corporation's production capacity is 10,000 to 50,000 valves per year.

Illustration 1 shows material (component part) costs for valve production in range 10,000-50,000 per year.

Illustration 1: Variable cost of valves at different production levels

From the above table you see that the total cost of valves varies in direct proportion to the number of units produced. The unit cost, however, stays the same and does not depend on the output volume.

The variable costs from the table above can be easily presented in a graph. Illustration 2 demonstrates how the variable costs for valves behave as total production changes. The graph shows the same data, but in a different way. Note that the variable cost line starts at zero cost for zero production and increases gradually with the increase in the number of valves produced.

Illustration 2: Total variable cost graph

To contrast the total variable cost with the cost per unit when production increases, we created another graph (Illustration 3). In the graph the varible cost per unit remains the same regardless of production level, while in Illustration 2 the total variable cost increases as production increases. The reason is because regardless of how many component parts we need to buy, the price is the same, $10 / unit (we don't consider bulk discounts). At the same time, if we procude more valves, we will need to buy more component parts and total cost will increase.

In the below graph, note that the unit cost line starts at $10 point and remains constant with the increase in the number of units purchased.

Illustration 3: Unit variable cost graph

Material cost is only one example of variable costs. Illustration 4 below provides more examples of variable costs along with their cost drivers for various types of businesses.

Illustration 4: Examples of variable costs