a)      Explain what you understand by ‘cost behaviour’ using an example to illustrate. 

Cost behaviour refers to a cost classification system primarily used for management planning decisions. It is a crucial classification in that it allows an insight into how costs react to different circumstances. In trying to predict and plan for the future, it is essential to understand costs and what drives and creates costs. In particular, this classification looks at the relationship between costs and sales volume / production output. When planning to increase output (sales volume), it is important to understand and appreciate how costs will react to this. What is meant by sales volume / production output is for example, a restaurant selling more covers, or a hotel selling more bedrooms, or a furniture shop selling more furniture as distinct from increasing sales by simply increasing the selling price. Cost behaviour analysis focuses on how costs react to increases in sales volume. Fixed costs are those that do not react to sales volume fluctuations, whereas variable costs increase as sales volume increases. For example if a restaurant is expecting sales volume to increase then it must plan for certain costs to increase as well. These costs would be considered variable costs and would include such costs as food, beverages and part-time labour. Other costs such as fixed costs would not be expected to change as sales volume fluctuates. These costs would include rent, rates, depreciation, salaries, light and heat, advertising, and insurance.   

b)      Explain the concept of the relevant range.

 The concept of relevant range refers to situations where increases in sales activity can lead to increases in fixed costs. Take for example a situation where sales volume increases to a level that a new manager or supervisor is required to support this extra volume of activity. In this case fixed costs will be affected and will increase. Thus we have the concept of 'the relevant range of activity' which states that fixed costs will be unaffected by sales volume fluctuations as long as these fluctuations ensure sales activity remains within a certain range. For example the fixed costs of a restaurant may remain at €20,000 per week as long as sales activity remains with a certain volume of activity range of 0 and 2,100 covers per week. Should sales increase beyond 2,100 covers then maybe an extra supervisor is required, or if opening times are extended additional staff may be required. The relevant range concept is critical when management is considering significant increases or reductions in activity levels.