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What does stepped cost mean?

Stepped cost refers to the behavior of the total cost of an activity at various levels of the activity. When a stepped cost is plotted on a graph (with the total cost represented by the y-axis and the quantity of the activity represented by the x-axis) the lines will appear as steps or stairs rising from left to right.

To illustrate a stepped cost, let's assume that you are developing a website and find that the monthly cost of hosting the site is based on the number of visits. For 0 to 999 visits per month, the cost is $20 per month. When the visits are in the range of 1,000 to 2,999 the monthly cost jumps to $50. If the visits are 3,000 to 9,999 the cost will be $200 per month. For monthly visits of 10,000 to 24,999 the cost is $300, and so on. As the data indicates, the total monthly cost is constant or fixed only for a given range of activity (number of visits). When the number of visits exceeds the upper limit of a range, the monthly cost jumps to a higher level and remains fixed until the visits exceed the new upper limit.

A stepped cost is also referred to as a step cost, a step-variable cost, or a step-fixed cost. The difference between a step-variable cost and a step-fixed cost has to do with the width of the range of activity. If the total cost increases with small increases in activity, it may be referred to as a step-variable cost. If the total cost will change only with large increases in the quantity of activity, the term step-fixed cost is more likely to be used.

Knowing how costs behave is important for decision making. For example, a manufacturer will want to know how its costs will increase if a new product line is added (or how costs could decrease if an existing product line is eliminated).