Variable costs, more specifically, are those amounts to be paid that change proportionally to the level of production or sales volume of an organization. In other words, it is impossible to infer that the more a company produces or sells, the higher the variable cost will be.
Fixed costs VS Variable costs
The terms “fixed” and “variable” already suggest the differences between each of these classifications.
The first refers to those values that remain the same regardless of the volume of production or sales.
An example of a fixed cost is the rent for workspace. After all, the amount will be the same for months with more or fewer hours worked. This cost also applies in the case of collective year-end holidays.
Now that you know about all the fixed and variable costs, it’s time to understand the difference between these concepts and expenses. Check it out below!
Cost VS Expense
When managing a company’s finances and organizing its cash flow, certain concepts are fundamental. Among them are cost and expense. Correctly classifying these two types is crucial for financial control and the monitoring of key performance indicators (KPIs), such as contribution margin.
The main difference between costs and expenses is the purpose of the expenditure. Costs are directly related to the production or acquisition of a good or service sold or used as a core business activity.
Expenses, on the other hand, are associated with the outlays necessary to keep the company running.
When considering a clothing factory, the following could be taken into account:
- Costs : factory rent, raw materials (fabrics, for example), labor, equipment, and other materials needed to produce the garments;
- Expenses : rent for the administrative headquarters, salaries and labor costs of the people allocated to the human resources area, and marketing activities.
Therefore, it is common for all organizations to have both costs and expenses. For this reason, attention must be paid to classifying them.
Furthermore, it is worth highlighting that both concepts are important in a company’s financial management and need to be considered together to determine the financial results of organizations.
Variable costs
Knowing your variable costs is extremely important for a company. After all, these values directly impact the profitability and success of the business.
But, although that is the ultimate goal, understanding variable costs also impacts aspects such as:
Decision making
Having good cost management is one of the key points for any strategic decision-making. After all, this way decision-makers will have reliable information at hand regarding aspects such as:
- Ideal selling price;
- Production cost per unit produced;
- Opportunity to scale business areas;
- Data for financial and production planning;
- Spending expectations in different scenarios.
Cost control
Knowing what the variable costs are allows the company to identify which activities or products are most expensive to produce. This information is essential for optimizing financial management , making it possible to:
- To outline actions for cost reduction without compromising quality;
- Evaluate more efficient production processes;
Determining the equilibrium point
To avoid one of the most common mistakes in financial management , knowledge about variable costs is essential.
In order to succeed and ensure financial health, companies need to calculate their break-even point. That is, they need to find the sales volume required to reach the point where the company is neither making a profit nor losing money on its operations.
Therefore, in an ideal scenario, this is the minimum revenue a company should have to cover its expenses.
Profitability assessment
Knowing in detail what a company’s variable costs are is also fundamental to evaluating the profitability of the products and services it sells.
Ultimately, only in this way will it be possible:
- To know the contribution margin of each product;
- Identify opportunities to increase overall profitability;
- Invest in actions that promote more profitable products;
- Calculate returns considering projections, including the time value of money .
In summary, understanding variable costs is important so that a company can make more informed decisions, thus increasing the chances of it being more efficient, competitive, and profitable in the long term.
Examples of Variable Costs
Variable costs can differ depending on the industry and structure of each company. Ultimately, these are factors that will guide spending and the strategies adopted.
However, it is possible to highlight some of the most common variable costs. These are:
Raw materials
This is one of the most classic examples of variable costs. After all, the amount spent on raw materials increases as production increases.
Direct labor
Another variable cost relates to the working hours of employees who work directly in the production of a product or in the provision of a service linked to the organization’s core business.
The more products that are produced, the higher this cost will be. It’s also worth noting that this includes the costs paid for temporary labor.
Sales commissions
Sales commissions also fall under the category of variable costs. After all, they are paid according to sales volume. In other words, they are proportional.
Freight
The cost of shipping products to customers is another example of a variable cost. It is directly related to the number of orders, so the more volumes we have, the higher the amount spent on this type of transport.
Packaging
The cost of product packaging is also considered variable, as it increases as production volume increases, requiring more boxes or other forms of storage.
Electrical energy
The cost of electricity used to power a company’s production or operations is an example of a variable cost. However, it’s important to note that to be considered a cost, and not an expense, its use must be directly related to the means of production or the provision of services considered to be its core business activity.
Did you know that there are also variable costs in the realm of personal finance? Discover the details below!
Variable costs in personal finance
To effectively manage personal finances , it’s necessary to understand the variable costs that can impact your budget.
In this context, variable costs are those that change according to the level of consumption. Some examples are:
- Food expenses;
- Transportation expenses;
- Leisure expenses;
- Clothing expenses.
Finally, the time has come to learn how to calculate variable costs. Therefore, in the section below we’ve provided practical examples so you can start managing your finances more efficiently in your organization and personal life today. Let’s get started?
How to calculate variable costs?
The calculation of variable costs varies depending on the type of company and the specific costs involved. However, in general, the following formulas are used to calculate these values:
1) Variable Costs = Total Cost – Fixed Costs
In other words, variable costs are found by subtracting fixed costs from the total cost. For example, if a company has a total cost of R$ 100,000 and its fixed costs are R$ 30,000, then:
Variable Cost = R$ 100,000.00 – R$ 30,000.00 = R$ 70,000.00
However, using this formula can be a good start, but more detail is needed to achieve efficient cost management. Therefore, it is also possible to use the following formula:
2) Variable Cost = Quantity Produced x Variable Cost Per Unit
With this option, it’s easier to have a micro-level view and evaluate each of the variable costs involved in production.
For example, a company produced 100 units of a certain product in one month. Each unit has a raw material cost of R$70.00. Therefore, the variable cost of raw materials for that month was:
Total Variable Cost of Raw Materials: 100 x R$ 70 = R$ 7,000.00.
Another example we can give is when the company arrives at its total variable cost and then divides it by the number of units produced. Let’s assume an electricity cost of R$ 20,000 for the production of 100 units. Therefore, we have:
Unit Variable Cost of Electricity: R$ 20,000 / 100 = 200/unit.