Expense management: what is a variable expense?

Running a successful business isn’t just about generating more sales. Managing your business expenses is also critical to profitability. Your business expenses likely include fixed and variable expenses, as well as expenses that are a mix of the two types.

While it’s important to manage all of your business expenses well, here we’ll focus primarily on variable expenses, which can provide opportunities to save money quickly.

Business Budget 101 Variable vs. Fixed Expenses

Fixed expenses are costs that are not directly related to sales. You will incur these types of expenses whether sales increase or decrease.

Variable expenses, on the other hand, are related to the volume of sales. These costs may increase or decrease depending on the production. This may be the case if you run a service business or a business with physical products.

Also, you probably have semi-variable or semi-fixed costs, which are a combination of the two.

What are some examples of variable expenses?

Examples of variable costs may include:

  • Raw materials
  • crafting supplies
  • Packaging
  • Delivery fees
  • Hourly wages or overtime
  • Fees
  • Credit card fees
  • Website Hosting Fees
  • Email service provider charges
  • Advertising
  • Office supplies

Some costs can be fixed or variable, depending on the company. Utility bills can be an example. A service business may have relatively predictable utility costs for office heating or cooling, for example, while utility costs may be much more variable for a manufacturing business.

What are fixed expenses?

Fixed expenses are just as they sound: fixed amounts that must be paid regardless of how much you produce or sell. Examples include rent, insurance premiums, loan payments, equipment leases, or property taxes. These expenses are often referred to as “overheads”.

That doesn’t mean fixed expenses can’t change. Costs may increase, or you may be able to negotiate a discount or find a cheaper option. But the cost usually remains the same whether production changes or not.

What are semi-variable expenses?

With semi-variable expenses, there will be a fixed component that you pay regardless of your production level, but an increase or decrease in production will change the cost. An example might be labor costs. Let’s say you have employees who earn a base salary, but who may also earn overtime or sales commissions. Base salary would be a fixed expense while commissions or overtime would be variable expenses that vary with the level of production.

Another example would be a SaaS product that charges a base amount on a monthly basis, but charges more when the number of users or usage exceeds a specific amount. Examples here could include business appointment software used by the sales team, or website hosting or email hosting services.

How to budget variable expenses?

Budgeting for variable expenses is trickier than budgeting for fixed expenses because they can change. The first thing it helps to do is look at your expenses to identify which ones are fixed expenses, semi-fixed expenses, or variable expenses.

Variable expenses can be categorized into operating costs or cost of goods sold (COGS). The cost of goods sold is directly related to the volume of production. Operating expenses are not directly linked to production. Note that some operating costs are variable, while others are semi-fixed or fixed.

One of the reasons for tracking and reviewing your variable expenses is to calculate their impact on the break-even point or profitability of those goods or services. At a minimum, you will need to know when you will break even from sales of specific products or services. But by digging deeper, you may be able to determine if you can increase profitability by reducing a variable expense. Or, you may discover that a specific product or service is not profitable, or not profitable enough to continue offering it.

Budgeting and forecasting will help you make these decisions. To do this, you need to track variable expenses and regularly review your company’s financial statements. Doing this as part of a monthly budget review is often ideal, although some companies may be fine with a quarterly or even semi-annual review.

Feeling overwhelmed? Your accounting profession or a business mentor can help you review your financial statements to identify opportunities to improve your business finances. The time spent on business financial planning is worth it in the long run.

Good Ways to Track Variable Expenses

There are a few key tools you’ll want to use to control your business expenses.

First, you need to make sure you’re using a business bank account. Some small businesses operate from personal accounts, but you should move away from them as soon as possible. A business bank account will often be necessary if you decide to apply for a small business loan, for example, but even if you don’t, it can make it easier to centralize your business finances.

If possible, set aside funds in a business savings account to cover variable expenses during times when cash flow is tight. A line of credit can also be useful here.

Then, use a business credit card or business debit card for business expenses when possible. This will allow you to better track and manage purchases, and may provide additional benefits.

Finally, be sure to use an accounting program and keep your books up to date, whether you do it yourself or hire someone to do it for you. Your accounting software may allow you to tie your variable expenses to specific products or services, which can help you track COGS and dig deeper into their impact on your bottom line.

Tips for reducing your company’s variable expenses

As a business owner, you know your business better than anyone. You will probably have an idea of ​​which variable expenses can be reduced or eliminated and which cannot. Still, it’s worth revisiting them periodically to see when it might make sense to shop around for a better deal or cut spending all together.

Some of the expenses your business spends money on are discretionary expenses and it may be possible to change them without affecting productivity or sales. For example, if you like to provide benefits to your employees, rather than buying items that not everyone will appreciate or use, maybe you can give them a monthly allowance that they can use. for meals, home office equipment, etc. If done right, this approach could save money and increase employee satisfaction.

Another option in this scenario might be to switch to a business cashback credit card with a higher rewards rate, then use the cashback you receive to fund employee benefits. You don’t spend any more money and you can always reward your employees. It can be win-win.

Negotiating discounts with your suppliers or vendors is another way to reduce variable expenses. Some offer a discount if you pay faster, which can also save you money.

Your employees may be able to help you reduce these costs. Once a year, for example, you can ask employees to give their opinion on certain costs. You can identify software you don’t use, for example, or more cost-effective alternatives. You may be able to entice employees to help you find these cost-cutting opportunities.

Ultimately, learning how to better manage your fixed and variable costs can help you increase your bottom line and even qualify for small business loans. Take the time to review your expenses to find opportunities to save money and build a financially sound business.

This article was originally written on July 29, 2022.

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