Fixed vs Variable Costs

Cash flow management is always an important part of business success, but it is even more important to stay on top of during the current times that we are in. Where you can cut down to save money, you should. Many businesses take on fixed costs when starting out, which could put a lot of pressure on the business.

What are fixed costs? Fixed costs are the types of costs incurred in your business where the costs are going to be incurred no matter what level of production or sales you are generating. This includes costs like salaries, rent, insurance, etc.

What are variable costs? Variable costs are the type of costs incurred in your business where the costs vary with production output, i.e. they rise as production increases and fall as production decreases. This includes costs like water, electricity, raw materials, etc. How should small and medium sized businesses manage costs? When starting out, try and avoid significant amounts of fixed costs as far as possible. For example, avoid employing people on a permanent basis, or moving into that high rental office space. If you can put it off until your revenues increase and become more stable, then do so. Try and negotiate with service providers and suppliers that your costs be variable rather than fixed. It ensures that if you have costs, there is revenue associated with it to cover those costs.

Over time, you may have an increase in production or business activity, which might mean that it's less expensive for you to have fixed costs. However, at the earlier stages of your business, or in times of lower activity, it is likely that reducing fixed costs would significantly assist in managing cash flow.

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