Variable costs represent the expenses related to the operation of a company. Also known as operating expenses or activity expenses, they vary according to the level of activity of the company and can affect gross profit.
The higher the level of activity, the higher the amount of variable expenses and vice versa.
Variable costs (or variable expenses) correspond to different expense items such as
- the cost of raw materials,
- the cost of goods,
- subcontracting costs,
- transport costs,
- salaries of temporary workers,
- packaging costs,
- distribution costs,
- logistics costs, and
- energy consumption (for production companies).
Variable costs can be calculated and monitored throughout the life of the business. From the moment the business is created, variable costs make it possible to know the project’s level of risk and its success potential.
It’s not always easy to determine whether a cost is variable or fixed. It’s therefore advisable to do an inventory of each expense from an accounting balance in order to determine whether each of them is fixed or variable.
In contrast to fixed costs, variable costs can vary in time but also according to the volume of activity of the company.
A restaurant owner or a baker, for example, must order more raw materials when the number of customers increases. This is the case, for example, during periods of high activity (vacations, national holidays, end-of-year celebrations, etc.).
Knowing the amount of variable costs for each product or service allows you to set the price correctly.
In the same way, the identification of the cost of variable expenses is necessary to determine the margin realized on the sale of a service or product. This margin is then used to finance the fixed costs.
The contribution margin is one of the indicators that can be calculated through the analysis of variable costs. It’s the difference between sales and total variable costs.
This margin allows you to know how much leeway a company has to finance its fixed costs.
Variable and fixed costs are essential elements that make it possible to calculate the break-even point and to establish the company's income statement.
The latter allows you to determine whether the company is profitable or not. It’s therefore essential to be aware of these different expense items and to follow them throughout the life of the company.
