What is a Mixed Cost?

A mixed cost is a cost that contains both a fixed cost component and a variable cost component. It is important to understand the mix of these elements of a cost, so that one can predict how costs will change with different levels of activity. Typically, a portion of a mixed cost may be present in the absence of all activity, in addition to which the cost may also increase as activity levels increase. As the level of usage of a mixed cost item increases, the fixed component of the cost will not change, while the variable cost component will increase. The formula for this relationship is:

Y = a + bx

Y = Total cost

a = Total fixed cost

b = Variable cost per unit of activity

x = Number of units of activity

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Understanding Mixed Costs

Mixed costs are common in a corporation, since many departments require a certain amount of baseline fixed costs in order to support any activities at all, and also incur variable costs to provide varying quantities of services above the baseline level of support. Thus, the cost structure of an entire department can be said to be a mixed cost. This is also a key concern when developing budgets, since some mixed costs will vary only partially with expected activity levels, and so must be properly accounted for in the budget.

The best way to deal with mixed costs in a budget is to use a formula in place of a single number for a mixed cost, with the cost automatically varying based on a designated activity level (such as sales). This approach is more complicated, but yields budget figures that are more likely to match actual results.

Example of a Mixed Cost

If a company owns a building, the total cost of that building in a year is a mixed cost. The depreciation associated with the asset is a fixed cost, since it does not vary from year to year, while the utilities expense will vary depending upon the company's usage of the building. The fixed cost of the building is $100,000 per year, while the variable cost of utilities is $250 per occupant. If the building contains 100 occupants, then the mixed cost calculation is:

$125,000 Total cost = $100,000 Fixed cost + ($250/occupant x 100 occupants)

As another example of a mixed cost, a company has a broadband contract with the local cable company, which it pays $500 per month for the first 500 megabytes of usage per month, after which the price increases by $1 per megabyte used. The following table shows the mixed cost nature of the situation, where there is a baseline fixed cost, and above which the cost increases at the same pace as usage:

Advantages of Mixed Cost Analysis

It is essential to understand the fixed and variable components of mixed costs, because these costs are so prevalent within a business. With a detailed view of these costs, you can estimate how mixed costs will vary with different activity levels, which is a good way to construct a budget that accurately reflects company operations. Having a knowledge of mixed costs also allows managers to make the correct decisions, in cases where decisions are derived from a firm’s cost structure.