What Are Step Costs?
Step costs are costs that are constant for a range of workloads but vary abruptly once they reach a given point.
Definition and Examples of Step Costs
Step costs are expenses that don’t change regardless of the workload. For a specific range of products, the expenses won’t change, but they’ll suddenly increase or decrease after crossing a certain point. Step costs transfer to a stair-step pattern when plotted on a graph.
- Alternate names: Step-fixed cost, stair-step cost, stepped cost, step-variable cost
Your charges may go up or down depending on the number of user accounts required, as is the case with Quickbooks pricing. You can establish up to three user accounts for the $30 monthly Essentials Plan. Whether you establish one user account or three, the $30 price remains the same. as soon as you need a fourth account, your costs jump to $40 per month with the next level plan.
Other examples of step costs for companies include salaries and benefits, which remain a constant cost until a single sharp increase.
How Step Costs Work
The workload must either rise or decrease by a specified amount before a step cost can happen.
The step cost will rise as the activity level goes above a particular point. Take the case of a production company that normally cranks out 1,000 items in a single shift. To produce more units, the corporation may add a second manufacturing shift if demand exceeds 1,050 units. Salaries would be the step cost because the business would have to pay shift supervisors more wages to oversee the second shift.
When activity declines to a certain point, the same pattern holds. An entire production line might be sold off by management, for instance, if a company’s sales were struggling. Several expenses’ step costs would suddenly drop because all expenses related to that production line would be cut.
There isn’t always a precise threshold at which a step cost applies. A customer service manager, for example, might decide against hiring a new agent in reaction to a slight (yet above-average) rise in emails and phone calls. Before hiring, the manager may hold off until there is sufficient more work to sustain a full-time representative.
When a business expands, the increased output may cause abrupt increases in step costs. The revenue of the business may benefit in some circumstances from this increase. But there are situations when going above that limit for step expenses can cost you money.
Here is a condensed illustration. John is considering purchasing a $5,000 machine that can create 1,000 units. Each piece can be sold for $20. The revenue generated would be $20,000 (1,000*$20). After subtracting $5,000 from the cost of the machine, the net profit would total $15,000.
John is positive that there would be a demand for at least 1,050 units after conducting market research. This would necessitate spending $5,000 to purchase a second machine. However, the machine’s revenue from just an extra 50 units is mere $1,000. In this scenario, if the threshold (1,000 units) were exceeded, the step cost ($5,000) would be greater than the revenue ($1,000), resulting in a loss for the business.
Types of Step Costs
Many of your expenses are instances of step charges, as you’ll see if you examine your company’s financial records.
Business owners will need to take into account the additional step expenses in personnel pay and equipment when building a new production plant. When staffing levels rise or fall above a certain level, health and pension contributions may also change.
Numerous jails and prisons use annual prisoner cohort figures to estimate step expenses. Because there are fewer individuals to feed, clothe, and watch, step costs decrease as cohort sizes decrease. Additionally, this results in a decline in the need for workers for those kinds of jobs.
Step Costs vs. Fixed Costs vs. Variable Costs
|Step Costs||Fixed Costs||Variable Costs|
|Costs that remain fixed for a certain range of workload or output but suddenly change after exceeding or falling below that range||Costs that remain fixed and do not change even if workload or output changes||Costs that change immediately as workload or output increases or decreases|
|Examples: salaries, employee benefits, software subscription plans||Examples: rent, utilities, loan payments||Examples: overtime, contracted services, travel, fuel, supplies|