To illustrate a variable expense, let's assume that a website business sells a product and requires that the customer use a credit card. The credit card processor charges the business a fee of 3% of the amount charged. Therefore, in a month when sales are $10,000 the business will have a credit card expense of $300. If sales are $30,000 there will be a credit card expense of $900. The total credit card expense varies with sales because the fee has a fixed rate of 3% of sales.
Another example of a variable expense is a retailer's cost of goods sold. For instance, if a company purchases a product for $30 and then sells it for $50, its cost of goods sold will be a constant rate of 60%. Hence when its sales are $10,000 the cost of goods will be $6,000. When the sales are $30,000 the cost of goods sold will be $18,000.
Knowing how costs behave when sales or other activities change will allow you to better understand how a company's net income will change. It also allows you to quickly calculate a product's contribution margin and to estimate the company's break-even point.
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