How Do Fixed and Variable Costs Differ?

Hand of Asian woman are calculating costs and payments

Businesses have both fixed and variable costs on a regular basis. There are benefits and downsides to both spending categories, with variable costs easier to lower, while fixed costs are generally easier to budget for but both of them can be covered with emergency pay day loan if you need money support. In this article, we are going to talk about the way fixed and variable costs differ and how they influence your business.

Why The Difference Is Important

Understanding the difference between fixed and variable costs as well as the fluctuation of your business expenses is important as it helps you make smart business moves and significant decisions that will inevitably drive revenue and bring more profit. Knowing the difference between revenue and expense is essential to understand how profitable your venture is.

Speaking about variable and fixed costs, having a deeper understanding of each spending category will help you define the correct price level for your services and goods. When you figure out how expenses may alter with fluctuations in output levels and volume, you will be able to refine your general business strategy.

This is especially important if your venture doesn’t bring much profit and you need an emergency pay day loan to cover expenses. Although there are numerous lending options today, it’s better to use apps to borrow money on the go. They allow consumers to meet their urgent financial needs and cover both personal and business costs without delay.

Fixed Costs and Variable Costs. The Difference.

Fixed Costs

What are fixed costs? They are predefined costs that don’t change for a certain period. Such expenses aren’t affected by the performance of the venture. No matter if your company brings a profit or not, you will most likely have some fixed costs. These expenses are easier to budget for because they are the same each month so you can predict how much you allocate toward them from your budget. A simple method of defining what the fixed expenses of your business are is to consider the costs you will still have when you need to temporarily close your company.

Fixed Cost Examples:

  • Insurance
  • Rent
  • Utilities
  • Salaries
  • Property tax
  • Depreciation
  • Amortization

Variable Costs

Variable costs are expenses that don’t remain the same. They tend to change and fluctuate as they are typically connected with business activity. Such costs are based on the volume of services or goods produced as well as the company’s performance. Due to the fact that such expenses alter from month to month, it can be more challenging to control them. Variable costs can lower or increase fast. Besides, they have a greater influence on the profitability of your business compared to fixed costs.

Variable Cost Examples:

  • Shipping
  • Direct labor
  • Operational expenses
  • Wages
  • Production supplies
  • Direct materials
  • Commissions

When to Use Fixed Costs or Variable Costs

What are fixed price types of contracts and how can they be used for your business? They provide for a firm price or an adjustable price. The second option may comprise a target price, a ceiling price, or both. The target price or the ceiling price is subject to adjustment only by operation of contract clauses unless otherwise mentioned in the contract. Keep in mind that labor-hour contracts and time-and-materials contracts aren’t fixed-price contracts.

Both variable and fixed costs will be utilized as long as your business exists. Business owners need to review both types of expenses to ensure accuracy when they compute their present operating costs or prepare their budget for the upcoming year. Sometimes, it may be difficult to determine which spending category you need to use. Here are some things to consider.

Businesspeople working on computer

  • When Computing Sales Commissions

These commissions are typically connected with sales or production. They fall into the variable costs category. Entrepreneurs can estimate potential sales for the next year, but the sales commissions can still vary. 

Speaking of nonfarm business sector unit labor costs in the USA, they increased by 2.4 percent in the third quarter of 2022 compared to the previous quarter. This information is adjusted every season at annual rates. Unit labor costs serve as an indicator of inflationary pressure on producers as they describe the relationship between productivity and compensation per hour.

  • When Hiring a New Worker

Are you hiring an hourly worker or an administrative employee? In the first case, you will have variable costs as these expenses will depend on the number of working hours. In the second case, you will have fixed costs that won’t change each month.

  • When You Buy Raw Materials

Such expenses are usually connected with the production. Thus, if production increases, so do material expenses. When production lowers, raw material costs also drop.

  • When You Rent Space

Such costs are usually fixed as they don’t alter until you sign a new lease.

  • When You Compute Utilities

Although you may consider utilities to be variable costs, their fluctuations will be minimal. On the other hand, the expense of extra electricity is variable in case a business owner has a production plant that requires machines to operate 24/7. In this case, variable costs will be connected with production levels and may change.

  • When You Ship Goods

You may come across both fixed and variable costs when you want to ship products. It depends on the goods you are planning to ship. Manufacturing ventures can face variable costs connected with the production. Service businesses may face fixed shipping expenses.

The Bottom Line

Summing up, it’s really important for small business owners to understand the difference between fixed costs and variable costs. Such expenses play an important role in controlling your venture, especially when you are trying to calculate a quick ratio or review the net income of your venture. 

Without learning the difference between variable and fixed costs, it will be difficult to define if your company has enough assets to cover present liabilities or understand accurate venture income. Both categories of spending will affect your financial statements. Make sure you check your balance sheets and income statements to make some adjustments if necessary.

Previous articleThe Best Tacos on the North Fork
Next articleMake Your Next Travel a Life-Changing Adventure with These 6 Tips