Expenses. As a business owner that is probably not your favorite topic. There are other topics that are much more fun to discuss such as positive cash flow and profit. But, if you have been in business for any length of time, you know that the fun stuff such as positive cash flow and profit will not continue if you ignore your expenses. The topic of expenses may not be your favorite, but it is essential to the well-being of your business for you to understand the different types of expenses and what they mean for your business.
- Variable expenses
Like the name suggests, variable expenses vary depending on certain factors in your business. These expenses increase or decrease with the sales volume of your business. For example, if you sell a product online, there are certain costs associated with the process of selling and delivering the product to your customers. The online payment portal you use charges a 2% fee for every transaction. If you sell $1,000 worth of products, the fee for the payment portal will be $20.00. That fee will go up to $60.00 if you triple your sales next month to $3,000. The 2% fee to the online payment portal is a variable expense because it changes in proportion to the change in sales activity. Other examples of variable expenses include shipping costs, raw material, packaging supplies, and sales commissions.
- Fixed expenses
The fixed expenses of your business do not change when your sales volume changes. These expenses stay the same whether your company has a good month or a bad month. For example, if you own a restaurant, the money you pay for your rent or mortgage each month is considered a fixed expense. Your landlord, or the bank, expects the same payment whether you filled all the tables each night or not. Other examples of fixed expenses include salaries and insurance.
Understanding the difference between the two types of expenses can be very helpful in your decision making and forecasting for your business. When you consider adding a new fixed cost to your budget you need to think about how it will impact the business now and in the future. Since the cost is fixed, you can easily add it to your budget for each month moving forward to get an idea of how it will impact your bottom line. Increased variable expenses come with the territory if you are increasing sales in your company. When you forecast and plan for growth, make sure and account for the variable expense increases so you can get the most accurate numbers possible.
The delineation between variable and fixed expenses is important because they impact your business in very different ways. Thankfully, it is not difficult to understand and identify which category an expense belongs to. You may spend some extra time categorizing your expenses, but it is well worth the time spent.