The fixed and variable costs These are two key concepts in any entrepreneurship. Keeping an adequate control of these costs will allow us, in addition to the order in the accounts, a better forecast of our expenses.
To start breaking down the concepts, you need to know what a fixed cost means and how to calculate it.
What are fixed costs?
The fixed costs of our enterprise are those costs that we must pay yes or yes. Fixed costs have the particularity of remaining stable over a period of time, regardless of how much we produce.
To summarize, they are costs that we will have to face without exception, whether on the day, the week, the month or the year.
Fixed cost formula
To calculate the fixed costs it is necessary to think about all the expenses that we must necessarily face in a period, for example, in the month.
A good practice is to detail them in an Excel spreadsheet and then add them, to know the total fixed cost. Then, if we divide the total fixed cost by the amount we have produced, we will obtain the unit fixed cost.
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Fixed cost = Expenses of the period
Suppose we have a pastry business and we sell cakes and cookies online. In this case, our fixed costs could be the WiFi service, telephone, taxes (), among others. That is, they are all those costs that do not depend on the number of cakes or cookies that we make.
Fixed cost chart
As we mentioned before, the fixed cost remains constant, regardless of the units produced. Therefore, your graph will be a straight line similar to the one detailed below.
In our enterprise we will also find variable expenses that, precisely, will change according to the amount we produce. That is why it is very important to take them into account to obtain the value of the product that we are going to buy.
What are variable costs?
Variable costs are those costs that can increase or decrease according to the level of production of our enterprise. That is, they are proportional to our activity.
So, with higher production, variable expenses will grow and, if productivity falls, costs will also decrease.
Variable Cost Formula
As with fixed costs, it is also important to know how to calculate variable cost.
To calculate the total variable cost, we must add all those costs that we have had in a period of time and that are related to our level of production.
If we want to calculate the unit variable cost, we must divide the total variable costs and the number of units produced. In this way, we will obtain the result of the variable cost per unit.
Continuing with the bakery example, as we produce more cakes, we are going to need more ingredients. All the inputs needed to produce more, be it sugar, flour, fruit, butter or chocolate, increase variable costs.
Variable Cost Chart
Variable cost changes in proportion to the level of activity or total volume. Therefore, your graph has a positive slope that increases as the units produced increase.
Differences between fixed costs and variable costs
The main differences are that the fixed costs will not change if there is a higher or lower level of production in the enterprise. Variable costs, on the other hand, do depend exclusively on what is produced.
In addition, fixed costs will allow us to cover the needs and services that are essential for the operation of our company. Fixed costs will not change in the short term.
Examples of fixed and variable costs
There are several examples that help explain what are the most common types of costs in companies and that we must take them into account for business growth. Although they will depend on each enterprise, we share some below.
Examples of Fixed Costs
- Salaries or wages of employees.
- Rent of the property.
- Services such as electricity, water, gas, internet, TV, technicians, etc.
- Administrative expenses.
Examples of Variable Costs
- Sales commissions.
- to send or buy a product.
- Purchase of materials for the production or offering of a service.
Calculating the total costs (TC) of our enterprise is a very simple exercise. What we must do is add the total of the fixed costs (CF) with that of the variable costs (CV).
Thus, the formula is as follows:
CT = CF + CV
keeping track of the fixed and variable costs of the enterprisewe are going to have greater clarity about the finances and understand, for example, the volume of profit produced in the analyzed period.
This analysis will allow us to plan future actions assertively: what purchases can we make without compromising the financial health of the enterprise, what volume of stock to replenish or when to do it, evaluate the possibility of hiring more people or making an investment.
Written by for the Tiendanube Blog.