Direct Labor as a Variable Cost

Throughout the corporate world, businesses are transforming labor into a more flexible (and variable) cost. Among such companies are Hewlett-Packard, General Electric, DuPont, Sun Microsystems, and British Airways. Discuss whether direct labor is a fixed or a variable cost. What are the pros and cons of management treating direct labor as a variable cost? Are there ethical issues to be considered here? Direct labor can be classified as a fixed cost or a variable cost, depending on how flexible the employer needs to be/can be with the labor force throughout the year.

Direct labor will be classified as a variable cost if the employer employs the practice of hiring/firing (or laying off) permanent employees throughout the year depending on seasonal business. This is a common practice in the US & UK, where management is legally & customarily given much more latitude to fluctuations in the labor force. Where direct labor is classified as a fixed cost, firms typically see laying off personnel during a business down-turn as letting go skilled/trained workers not easily replaced when business picks back up.

These types of firms will also employ the practice of hiring temporary employees in times of upturn, so as to not need to lay-off any permanent employees when business returns to normal. The pros of management treating direct labor as a variable cost is giving management the latitude to keep producing at optimal staffing levels whatever the fluctuations of business. This means a leaner, more competitive business. The cons of management treating direct labor as a variable cost are that valuable employees are often laid off, and are not easily (or inexpensively) replaced, and lay-offs can undermine the morale of those remaining employees.

The ethics of the situation is that management could be toying with a person’s psyche if they’re repeatedly laying off an individual. If you hire an individual knowing of the likelihood of laying him off in the future, you’ve taken away the opportunity for that person to find permanent employment with another firm. (Brewer, P. C, Garrison, R. H & Noreen, E. W. (2011). Managerial Accounting for managers (2nd ed. ). New York, NY: McGraw Hill. )