Business, Legal & Accounting Glossary
An item of expenditure that, in total, varies directly with the level of activity achieved.
An item of expenditure that, in total, varies directly with the level of activity achieved.
For example: The cost of direct materials will tend to double if output doubles, a characteristic being that it is incurred at a constant per unit produced.
In practice, there are very few examples of true variable costs or true fixed costs; with most costs being semi-variable costs.
A cost that changes as sales or production change. If a business is producing nothing and selling nothing, the variable cost should be zero. However, there will probably be fixed costs.
Let’s say you make widgets. How many vats of glue you buy to assemble your widgets depends on how many orders you have. So this is — ta-da — a variable cost that varies with how active your business is. A fixed cost, in contrast, would be something like the rent you pay at your widget factory. The landlord wants her money; no excuses.
Investors want their companies to have variable expenses appropriately in line with the ups and downs of their businesses. Glue sitting in the back of a factory that is making only half as many widgets as it did last quarter could end up being a drag on the current quarter’s balance sheet.
The percentage of total costs that are variable can also tell investors something about how the companies they own will be able to respond and profit as demand ebbs and flows. If a large portion of a company’s operating costs are variable, that translates to ramp-up costs when demand increases. Funding for those ramp-up costs will come out of sales revenue, meaning smaller margin increases.
On the flip side, there’s a bit better news. If demand decreases, variable costs can be cut out of the budget relatively quickly. However, fixed costs such as property taxes and insurance continue even if the demand for widgets tanks.
Variable costs are the costs of goods sold (COGS).
Fixed cost
Operating leverage
Expense
Costs of goods sold
A cost of labor, material or overhead that changes according to the change in the volume of production units. Combined with fixed costs, variable costs make up the total cost of production. While the total variable cost changes with increased production, the total fixed costs stays the same.
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This glossary post was last updated: 28th November, 2021 | 0 Views.