An illustration of variable cost We will use the following scenario throughout this section as a running example for important concepts. Lambchops is an organisation that processes wool, which is subsequently sold to manufacturers of fine suits for $1000 per bale. To process each bale of wool, the following costs and consequences are incurred or arise:
• cost of acquiring each bale of unprocessed wool (including transportation) – $450
• cost of (resources used in) processing (in practice there would be many more costs than shown here, but we are limiting them to keep this relatively straightforward): – labour – four hours per bale at $30 per hour – detergents – $10 per bale – water – 1000 litres per bale (at the present time, this water is extracted from a bore on the property at no financial cost – bore water is groundwater accessed by drilling a bore into underground aquifers – although there are concerns that the amount of water being taken is impacting the quality and quantity of water available to other local properties) – electricity – $30 per bale (50 kilowatt hours) – wastewater – 850 litres per bale (at the moment, this wastewater is released directly into a local waterway at no financial cost, but it is unclear what the environmental impacts are).
• costs of making sales – $40 per bale (packaging and transportation to buyer). Let us now consider what is the variable cost associated with the production and sale of each processed bale of wool.
Financial costs If we only consider the financial costs, then the answer is: $450 + (4 x $30) + $10 + $30 + $40 = $650 per bale. This means that for every additional bale of wool that is processed, the cost to Lambchops will increase by $650. Social and environmental implications In practice, we also need to consider the social and environmental implications of the planned activity and how the impacts might vary as production varies. Relevant here would be the use of water, including how the amount used might impact water availability for other stakeholders living or working nearby. Also, the impacts of wastewater on local waterways would require careful analysis, as would the types and quantities of detergents being used and whether those amounts represent an environmentally safe level of output. Some organisations would also consider the potential for reducing the amount of energy being used by the production processes, or the possibility of using energy from renewable sources. The actual variable cost The variable cost of $650 shown above only relates to the variable financial costs being incurred by the organisation. It does not reflect any social and environmental factors. As such, when we subsequently consider the profit of the organisation – which is almost always reported in financial terms – then we must remember that it will not necessarily take into account some of the environmental and social impacts of the organisation. Hence, profit is not the only thing to be considered by managers when looking at the success of an organisation, or of a planned product or service. This is something we have stressed a number of times already within this book, including earlier in this chapter when we emphasised the necessity for managers to consider sustainability in managing an organisation. A focus just on financial profits is not a long-term view of managing an organisation.
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