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Managerial and Cost Accounting40 Cost-Volume-Profilt and Business Scalability6.4 Business Implications of the Fixed Cost Structure The nature of a specific business will have a lot to do with defining its inherent fixed cost structure. Airlines have historically been burdened with high fixed costs related to gates, maintenance, contractual labor agreements, computer reservation systems, aircraft, and the like. As you are aware, airlines have struggled during lean years because they are unable to cover fixed costs. During boom years, these same companies have been extremely profitable, because costs do not rise (much) with increases in volume. Basically, there is not much cost difference in flying a plane empty or full! Software companies have a big investment in product development, but very little cost in reproducing multiple electronic copies of the finished product. Their variable costs are low. Other businesses have attempted to avoid fixed costs so that they can maintain a more stable stream of income relative to sales. For example, a computer company might outsource its tech support. Rather than having a fixed staff that is either idle or overloaded at any point in time, they pay an independent support company a per-call fee. The effect is to transform the organization’s fixed costs to variable, and better insulate the bottom line from fluctuations brought about by the related ability to cover or not cover the fixed costs of operations. Every business is unique, and a savvy business person will be careful to understand their cost structure. For a long time, the trend for many businesses was toward increased fixed costs. Some of this was the result of increased investment in robotics and technology. However, those components have become more affordable. And, we are now seeing more outsourcing, elimination of health insurance, conversion of pension plans, and so forth. These activities suggest attempts to structure businesses with a definitive margin (revenues minus variable costs) that scales up and down with changes in the level of business activity. No matter the specific example, a manager must understand their cost structure. 6.5 Economies of Sale Economists speak of the concept of economies of scale. This means that certain efficiencies are achieved as production levels rise. This can take many forms. For starters, fixed costs can be spread over larger production runs, and this causes a decrease in the per unit fixed cost. In addition, enhanced buying power results (e.g., quantity discounts) as volume goes up, and this can reduce the per unit variable cost. These are valid considerations. The accountant is not blind to these issues and must take them into consideration in any business evaluation. However, care must also be exercised