Variable Costs
Business expenses that change proportionally with production or sales volume.
Definition
Variable costs are expenses that increase or decrease with production or sales volume. For a product business, variable costs include raw materials, packaging, and shipping. For services, they might include contractor fees, commissions, or direct labor.
Variable costs are typically expressed as a cost per unit or as a percentage of revenue. Understanding your variable cost per unit is essential for pricing—your price must exceed variable cost to contribute to fixed costs and profit.
Why It Matters
Variable costs determine your contribution margin—what each sale contributes after covering its direct costs. If variable costs are too high relative to price, you might be unprofitable no matter how much you sell.
Analyzing variable costs also reveals opportunities. Can you negotiate better material prices? Use more efficient shipping? Each reduction in variable cost per unit flows directly to profit.
Examples
- 1
A product business has $20 variable cost per unit: $12 materials, $5 shipping, $3 packaging. Selling price must exceed $20 to be viable.
- 2
A restaurant's food cost is variable—serving twice as many diners uses twice as much food. Food cost typically runs 28-35% of revenue.
- 3
A consulting firm's variable costs are low (few direct costs per project), giving high contribution margins once fixed costs are covered.
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