Home
Blog
Getting Started

# What is a variable cost: examples and formula

Goldfortx Content Team
4/9/2023
11
mins

Variable cost is the bread and butter of exporting businesses. If you want to make a profit, you can start by working out the variable cost of your product or service. It’s a useful tool for calculating anything from your product’s contribution margin to your company’s profit.

Think of your variable cost as the sum of the costs incurred in making a product. Therefore, your variable cost rises if your company’s production increases and falls if production decreases.

Another common type of cost is fixed costs — these don’t change in proportion to your company’s production or sales volume.

This article at a glance

Variable costs are important when determining a specific product’s contribution margin and are used to calculate your company’s profit. Find out more about variable costs, some examples, and how you can calculate your variable cost using a formula.

## What is a variable cost?

Your total company expenses = Variable costs + Fixed costs.

To understand variable costs, we first need to know the difference between fixed and variable costs, which make up the total company expenses in that financial year.

### Variable Costs vs. Fixed Costs

As the name suggests, variable costs can change based on how much a company produces and sells in that time period. Some common examples of variable costs include raw materials, direct labour, commissions, utility expenses, and shipping and freight.

On the other hand, fixed costs will not change regardless of whether the company’s goods or services are produced or not. Essentially, this means that a company must always account for fixed costs before any other costs. Some common examples include lease and rent expenses, property tax, salaries, business insurance, depreciation and interest payments.

Here’s an example to demonstrate how fixed and variable costs work.

Example:

Company ABC produces soft toys. They rent a machine for $ 5000 each month to produce these toys, and each toy costs $ 2 to produce. In the month of June, they produced no toys. October, = 2000 toys. December, 5000 toys. What are Company ABC’s fixed and variable costs?

Month | Fixed costs | Variable costs | Total expense
--- | --- | --- | ---
June | $ 5000 | 0 x $ 2 = $ 0 | $ 5000
October | $ 5000 | 2000 x $ 2 = $ 4000 | $ 9000
December | $ 5000 | 5000 x $ 2 = $ 10 000 | $ 15 000

### Why is variable cost analysis important for your business?

Variable cost analysis is used to analyse a company’s expenses, pricing, and profitability.

#### 1. Determining the break-even point

Break-even point = Fixed costs/contribution margin (revenue — variable costs)

To know your company’s break-even point, you need to calculate how many products you must sell to make a profit.

#### 2. Setting a price for products or services

Revenue is gained from selling products to recover the cost of manufacturing. Pricing your product too high will blunt its competitive edge in a cutthroat market. Pricing them too low will make it difficult to sustain the company.

A variable cost analysis will help a company ensure how much it should price a product in order to earn profits from that sale.

#### 3. Optimise budgeting and planning

Some companies aim to increase revenue by doubling their output in the next financial year. But doing so will proportionally increase their variable costs. Knowing the current variable cost using a variable cost analysis will determine whether any strategic plans for growth, contraction, or expansion are feasible.

## Variable costs vs. Average variable cost

Variable costs and Average variable cost are often interchangeably used, but they’re vastly different terms.

What is the average variable cost? Average variable cost = total variable costs / total output

Variable costs are used to describe the variable cost of a single product, whereas average variable cost compares variable costs to what has already been produced by the company, and can vary depending on price increases.

For example, utility bills are a variable cost. In June, Company ABC’s utility bills came up to a total of $ 2000. However, in September, due to the government’s increase in water prices, the utility bill came up to $ 3000.

The current variable cost will be $ 1000 higher than before, but the average variable costs won’t fluctuate that much, as it’s divided by the total output of the company.

### Types of variable costs

The most common types of variable costs include:

- Raw materials
- Direct labour
- Commissions
- Utility costs
- Shipping and freight
- Rent of machinery
- Office rent

Unsure if your cost is variable? A rule of thumb is that if a cost may increase or decrease depending on your company’s activity and production, it’s most likely a variable cost.

One type of cost that is often confused by entrepreneurs is salary and labour.

Is salary a fixed or variable cost? Is labour a fixed or variable cost?

Salary is a fixed cost. This is because it’s not determined by production or company revenue. For instance, Employee A earns $ 2000 per month, every month. The salary your company gives out will not change, even if you produce no products that month, or if you produce 2000 products that month.

However, labour is a variable cost. The difference is when labour costs are not part of an employee’s salary, or if you hire direct labour that does not receive a regular salary payout from you.

For example, piece rate labour — where workers are paid based on the number of units they make or pack. Another example is employees who are paid on an hourly basis or paid based on billable hours. This is when a company bills a client for only the hours its employees work.

## How do I calculate the variable cost?

Fixed costs are simply added together to get a company’s total fixed costs.

Fixed cost 1 + fixed cost 2 + fixed cost 3 = total fixed cost

But variable costs must be multiplied. Sounds confusing? Here’s an easy formula.

#### Variable cost formula

Production output x variable cost per unit = total variable cost

Example:

Company ABC produces 10 000 units of soft toys. One unit costs $ 2 to produce.

Production output (10 000 units) x variable cost per unit ($ 2/unit) = total variable cost of $ 20 000

## Elevate and simplify your payment process

There are many expenses that need to be paid out by your company on both a regular and irregular basis — and these are part of your company’s variable and fixed costs. Make your payment easier by choosing a simplified and smart solution to handle payments.

Goldfortx lets you avoid the high costs and smothering regulations of international trade. We enable you to hold, transfer and exchange foreign currencies online simply by using a single multi-currency account. Make and receive payments in over 30 currencies without fuss.

Start onboarding today.

### Borderless payments for global business

Get the multi-currency account built for quick and easy international payments, with no limits.

Get started

### Borderless payments for global business

Get the multi-currency account built for quick and easy international payments, with no limits.

Get started

## Keep reading

#### Air Waybill: A Step-By-Step Guide About What It Is and How to Fill It In

7
min
Customs

#### Gross income: definition, formula, and how to calculate it?

6
min
Financial Services

#### Netherlands company formation: how to set up a company?

18
min
Country Guides

#### What’s an IBAN number and how does it work in the UK?

8
min
Banks
Home Join About Features Pricing Customers Blog Partners Careers Contact
Knowledge base Supported currencies Safeguarding SWIFT codes FAQs
Complaints Privacy policy Terms and conditions