Fixed and variable costs
- Before a business can control its costs, management must have a clear idea of what those costs are.
- Fixed costs do not change when the level of activity changes - they must be paid regardless of what happens in the business. For example: salaries, insurance and lease.
- Variable costs are those that change proportionately with the level of operating activity in a business. For example: materials and labour.
- Companies can usually decrease variable costs (through increased efficiency) e.g. JIT inventory management, new technologies.
- Cost centres are sections of a business to which costs can be directly attributed.
- Direct costs: can be allocated to a particular product, activity, department or region.
- Indirect costs: typically shared by more than one product, activity, department or region.
- Guidelines and policies should be established to encourage staff to minimise expenses where possible, for example, eliminate waste and unnecessary spending.
- Expenses reduce profits. - Savings can be substantial if people take a critical look at costs.
Extract from Business Studies Stage 6 Syllabus. © 2010 Board of Studies NSW.