If you want to understand if your product will generate a profit at scale, it’s important to first understand the difference between fixed costs and variable costs.
Fixed Costs: These are expenses that don’t change regardless of how much a company is producing. These costs exist largely outside of a company’s specific business model. Regardless of how many products you’re producing, the rent on the building you’re making them in will still be the same, making it a fixed cost.
Variable Costs: Unlike fixed costs, variable costs do change based on how much a company produces. If you’re making more products, you’re spending more on raw materials, making raw materials a variable cost.
It’s often best to understand what these costs are in context. Let’s imagine that you run a trucking company. How would some of your costs be categorized? While some of these are business specific, many of these have a direct corollary in a wide variety of business models:
Fixed Costs:
Variable Costs:
As alluded to in the opening, one of the key reasons that the differences in these costs matter is when assessing profitability. In order for something to be profitable, you have to subtract both your fixed costs and variable costs from what you’re charging for your product or services. If you can spread increased production across the same fixed costs, your profitability equation can turn a far more lucrative result as they will be spread out over a higher number of sales.
Both fixed costs and variable costs are key factors in assessing the profitability of an economic venture and making sound business decisions requires understanding both. For more guidance on understanding costs and assessing profitability, contact us! Complete Tax and Notary Services is committed to your business’ success.