When it comes to accounting, the income statement is a powerful tool that helps businesses understand their financial performance over a specific period. It shows the revenue earned, expenses incurred, and net income generated during that period. However, not all expenses are the same. Some expenses vary with the level of output, while others remain fixed regardless of the production level. In this article, we will discuss one such type of expenses – variable costs and see which of the following would be classified as a variable cost on the income statement.
Variable costs are expenses that change in proportion to changes in the level of output or sales. In other words, they are directly related to the number of units produced or sold. Thus, the higher the sales, the higher the variable costs, and vice versa. Some common examples of variable costs include raw materials, direct labor costs, sales commissions, and shipping expenses.
On the income statement, variable costs are classified under the cost of goods sold (COGS) section. The COGS section represents the direct costs associated with the production of goods or services sold by the business. It includes all expenses related to the materials, labor, and other costs incurred while making a product or offering a service.
Now let’s see which of the following would be classified as a variable cost on the income statement.
– Direct labor costs: Direct labor costs are the wages paid to employees who are directly involved in the production of goods or services. For example, if a company is producing T-shirts, the labor costs associated with the workers who operate the sewing machines or assemble the finished T-shirts are direct labor costs. Since these costs change with the volume of production, they are considered variable costs.
– Raw materials: Raw materials are the primary ingredients used to make a product. For instance, if a company is manufacturing cookies, the cost of flour, sugar, and other ingredients would be classified as raw materials. Since the amount of raw materials used is directly proportional to the number of units produced, it is a variable cost.
– Sales commissions: Sales commissions are the fees paid to salespeople for selling a product. As sales commissions increase or decrease with the volume of sales, they are considered a variable cost.
– Shipping expenses: Shipping expenses refer to the costs incurred to deliver the finished goods to the customers. As the volume of sales increases or decreases, the shipping expenses also change, making them a variable cost.
In summary, on the income statement, direct labor costs, raw materials, sales commissions, and shipping expenses are classified as variable costs. Understanding the difference between variable and fixed costs is crucial for businesses to determine their breakeven point, set pricing strategies, and plan for future growth. By analyzing their income statements, businesses can identify which expenses are variable and adjust their operations accordingly to maximize profits.