Variable Cost is Costs that change depending on market fluctuations or are affected by changes in the volume of goods or services a business produces. To make the most of financial resources, businesses need to understand what variable costs are and how to calculate variable costs.
In this article, let's learn about this type of cost with Bizzi.
What is variable cost?
Define: Variable costs (VC) are costs that change in proportion to the quantity of products or services a business produces or sells. Basically, this type of cost will increase or decrease depending on the scale of the business's output. Variable costs are also known as Variable Costs.
Examples of variable costs:
- Raw materials in production (flour for bakeries, fabric for garment factories...)
- Wages are calculated by product or hour.
- Shipping costs are incurred based on the quantity of goods.
Variable costs include:
- Raw material cost.
- Direct labor costs.
- Energy costs for production.
- Packaging costs.
- Sales commission.
- Credit card transaction fees or shipping costs.
- Utilities such as electricity, gas, water.
Characteristics and significance of variable costs
Characteristic:
- Total variable costs depend on the level of business activity; unlike fixed costs which exist whether there is production or not.
- Unit variable cost (variable cost to produce 1 unit of product) remains constant as the level of activity changes.
- Variable costs are zero if the business goes out of business.
- Direct impact on cost: Because variable costs account for a large part of product cost, businesses need to control them closely to optimize profits.
Meaning:
- Help businesses be flexible in financial management: When sales fall, businesses can cut back on production to reduce variable costs. When demand rises, they can increase production without making large investments in fixed costs.
- Support for pricing decisions & profit optimization: Variable costs is the basis for analyzing the relationship between costs, volume and profits, thereby accurately pricing products. Understanding variable costs helps businesses determine floor price (lowest selling price without losing money) and calculate the break-even point more accurately to determine when to start making a profit.
- Optimize production and operating costs: Businesses can seek to reduce variable costs by negotiating raw material prices, improving manufacturing efficiency, or automating.
- Support in business decision making, budgeting and planning: When considering expansion, businesses can predict variable costs to avoid financial risk. At the same time, understanding what variable costs are will help businesses compare in-house or outsourced production based on variable costs versus fixed costs.
Classification of variable costs
- Linear variable cost:
- Define: Variable costs are directly related to the level of production activity.
- For example: Direct materials cost, direct labor, sales commission.
- Control: Control total costs and set variable costs per unit of activity.
- Level Conversion Cost:
- Define: Costs change only when activity levels change significantly.
- For example: Indirect labor costs, machinery maintenance costs.
- Control:
- Optimize the selection of the right personnel.
- Build appropriate variable costs for each level.
- Choose the appropriate activity level.
- Curved variable costs:
- Define: Costs do not have a clear linear relationship with production output.
- Characteristic: Difficult to identify and less common.
Variable selling costs
- Define: Costs that have characteristics of both fixed and variable costs.
- For example:
- Utility costs: Includes monthly subscription fees (fixed) and consumption-based costs (variable).
- Maintenance costs: Includes regular service contracts (fixed) and repair costs (variable).
- Telephone costs: Including line subscription fee (fixed) and call minute fee (variable).
- Transaction Fee: Varies by transaction quantity and value.
Distinguish between variable costs and fixed costs
| Criteria | The variable costs | Fixed costs |
| Define | Costs associated with output or sales activity. | Costs remain constant regardless of changes in output or sales activity. |
| Degree of change | Increases when output is higher, decreases when output is lower. | Unchanged regardless of increase or decrease in output |
| For example | Raw materials, direct labor wages, commissions. | Factory rent, machinery depreciation, insurance, administrative staff salaries. |
| Relationship with time | Changes by day, week, month, quantity… and only occurs when there is activity | Unchanged over a period of time. |
| Derivative | Only arises when the business carries out production activities. | No generation even if there is no production unit. |
| Change per unit | Constant. | Change. |
Real life example: Let's say you own a milk tea shop:
- Fixed costs: Rent is 10 million/month, regardless of how much you sell, you still have to pay.
- The variable costs: Cost of ingredients such as tea, milk, sugar – if you sell 100 cups, buy ingredients for 100 cups, if you sell 500 cups, buy ingredients for 500 cups.
How to calculate variable costs
Variable cost formulas
- Total variable costs:
- Recipe: Total variable cost = Number of output products x Variable cost per unit of product.
- Average variable cost:
- Recipe: Average variable cost = Total variable cost / Total output.
- Profit margin:
- Recipe: Profit Margin = Retail Price per Unit – Variable Cost per Unit.
- Break-even quantity:
- Recipe: Break-even quantity = Total fixed costs / (Retail price per unit – Variable costs per unit).
Illustrative example
- Example 1: Calculate total variable costs.
- A company produces 50 units of product, the variable cost per unit is $100.
- Total variable costs = $100 x 50 = $5,000.
- Example 2: Calculate average variable cost.
- The total variable cost to produce 80 shirts is $400.
- Average variable cost = $400 / 80 = $5/shirt.
- Example 3: Calculate profit margin.
- A company sells T-shirts for $20/piece, with variable costs of $12/piece.
- Profit margin = $20 – $12 = $8/shirt.
- Example 4: Calculate the break-even quantity.
- A T-shirt company has total monthly fixed costs of $1,200, a selling price of $20 per shirt, and variable costs of $12 per shirt.
- Break-even quantity = $1,200 / ($20 – $12) = 150 shirts.
How to optimize variable costs for businesses
Solution
- Save on direct material costs:
- Find new suppliers or negotiate better prices.
- Build strong relationships with suppliers.
- Buy raw materials in bulk.
- Partner with other businesses to buy together.
- Consider joint ventures with suppliers.
- Reduce direct labor costs:
- Replace full-time workers with seasonal labor when needed.
- Train staff to improve efficiency.
- Reduce commissions when possible.
- Build attractive bonus policies.
- Cut distribution costs:
- Find alternative shipping services at discounted rates.
- Reduce packaging costs.
- Use online shipping services.
- Switch to order fulfillment services.
- Other solutions:
- Plan and allocate specific variable and fixed costs.
- Control asset usage, avoid waste.
- Collect information on actual variable costs and establish standards.
- Periodic analysis of price fluctuations in the market.
- Analyze value-added processes to capture the effectiveness of each cost.
- Prepare short-term variable cost budget.
- Propose measures to save variable costs.
- AI Applications: Read XML file, import invoice data automatically.
Financial management and variable cost optimization tools
Accounting and financial management software: Bizzi Expense, QuickBooks, Xero, MISA, Odoo
- Helps track variable costs in real time, analyze cost trends and assist with budgeting
ERP (Enterprise Resource Planning) system: SAP, Oracle, Odoo
- Integrate accounting, financial, inventory management and manufacturing data to track variable costs more accurately.
- Support planning and cost forecasting based on actual production output.
Inventory Management Software: Zoho Inventory, Netsuite, KiotViet
- Helps optimize raw material costs (a major variable cost), reduce waste and ensure no excess inventory.
How does Bizzi Expense help businesses manage variable costs?
Bizzi Expense Built on in-depth analysis and meets all your business's cost management and budget control needs in the simplest way.
Send work/advance requests quickly
- Automatically calculate work norms
- Plan your budget clearly
- Easily request advances
Simplify the process of collecting invoices – creating expenses
- Reduce invoice receipt and verification time – initiate expenses in just 2 taps
- Proactive mass expense reporting helps streamline processes
- Automatically navigate the browsing flow according to established units, regulations, and decentralization
Approve documents conveniently and transparently
- Approve anytime, anywhere cross-platform
- Approval reminders to keep work from getting delayed
- Understand clearly the status of compliance with regulations and budget before making decisions
- Record approval/rejection history with valid reasons
Control costs strictly according to policies and budget
- Complete and valid invoices and documents
- Prepare budgets by department, project and spending category
- Warning when costs and payment requests do not/do exceed the budget
- Display quick reports with detailed, up-to-date information on planned and actual expenditures
- Dashboard for intuitive, multi-dimensional cost management in real time across multiple platforms
Advantages of Bizzi Expense – Optimal cost management solution for businesses
- Easy to use: Bizzi Expense is designed with an intuitive and user-friendly interface, making it easy to record, track and manage expenses.
- Powerful Features: Bizzi Expense provides full features for expense management, from recording invoices, classifying expenses to creating and approving expenses online.
- Cost savings: Compared to other solutions, Bizzi Expense has a reasonable price, suitable for many types of businesses, especially small and medium enterprises.
- Good support: Bizzi Expense has a friendly and enthusiastic customer support team, always ready to answer any questions you may have.
The above article provides detailed information about what variable costs are and how to calculate variable costs accurately. When managing variable costs effectively and optimally, businesses can reduce product costs, optimize cash flow, and avoid unnecessary costs. This creates a basis for increasing profits, improving competitiveness, and flexibly adjusting production according to the market.
In the era of rapid technological development, understanding what variable costs are and applying tools to management will contribute to increasing efficiency and optimizing resources for businesses. With Bizzi Expense - Comprehensive business cost management, all business operations - revenue and expenditure will be digitized and automated intelligently.
Contact Bizzi now to experience specialized solutions specifically for your business!
- Link to register for a trial of Bizzi products: https://bizzi.vn/dang-ky-dung-thu/
- Schedule a demo: https://bizzi.vn/dat-lich-demo/
