What Is the Meaning of Fixed Expenses?
When doing your business analysis, fixed expenses (or costs) are crucial to consider. Fixed expenses are those expenses that are independent of either production or revenue. These are essential for any budget as well as for long-term planning of any business. Fixed and variable expense analysis is important in calculating your cost, volume and profit expectations. Understanding these expenses will aid the business owner in ddetermining his ideal production schedule and act as a helpful outline for growth potential.
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Examples
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Depending on the type of business that you operate, fixed expenses can include interest, rent and salaries of employees. For manufacturing and production companies the rent or use of equipment may be a fixed cost. While many fixed costs are unavoidable, others are at the discretion of the company, and its management. An example of the latter would include advertising and marketing expenses that vary over time but are fixed in the short term.
Variable Expenses
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Variable expenses are expenses that fluctuate depending on the amount of business conducted in a specified time period. Production costs for items sold and commission-based salaries are some examples of variable costs.
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Combination Expenses
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Some expenses are a hybrid of fixed and variable costs. An example of a combination cost would be a phone bill. While you expect to pay a certain amount of money for having a phone each month, as your business increases your phone bill costs may extend past your expected fixed costs. To avoid accounting confusion, it is best to determine whether you would prefer to label such costs as variable or fixed, and treat them accordingly. To err on the side of caution, many business owners choose to consider combination costs fixed.
Time Frame
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Even fixed expenses fluctuate over long periods of time. For example, interest rates may increase on your business loans or property values may cause a shift in your rent expenses. Because of this, fixed costs are sometimes referred to as "period costs."
Per Unit Calculations
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To understand the behavior of fixed costs, many business owners choose to consider them as they relate to the number of given units produced by a company. That is, if total fixed costs are $10,000, and a company produces 10 widgets, fixed cost per unit is $100. On the other hand, if the company produces 100 widgets, fixed costs per unit will be $10. Based on these calculations, management may decide to increase or decrease production goals. This is called the break-even analysis.
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References
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