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Introduction to Costs
Costs are the amounts that a business incurs in order to make goods and
provide services. Every business incurs costs, but they vary in terms of their
type and amount.
A good starting point is to consider the difference between the two main types
or categories of cost, namely:
Fixed costs – costs which vary with the quantity of output, and
Variable costs – costs which a business cannot predict because they are so
uncertain
Good examples of fixed costs would include office rent, management salaries
and the cost of raw materials used in the production process.
Of course just because a cost is classified as “fixed”, it does not mean that the
cost will stay the same. A fixed cost can rise – for example if management
decide to spend more on an advertising campaign, or if the percentage
commission earned by the sales team is increased.
Variable costs tend to be those relating directly to the production or sale of a
product. Good examples include wages based on amounts produced (e.g. a
piece-rate) and the cost of buying-in goods for resale.
Total variable costs can be calculated by a simple formula:
Variable cost per employee x output