Definition of Variable Expense
An expense is variable when its total amount changes in proportion to the change in sales, production, or some other activity. In other words, a variable expense increases when an activity increases, and it decreases when the activity decreases.
Examples of Variable Expenses
Assume that a website business sells a product and requires the customer to pay with a credit card. The credit card processor charges the business a fee of 3% of each amount charged. Therefore, if the business has sales of $10,000 in the month of June, the business will have a credit card expense of $300. If July's sales are $30,000 the credit card expense will be $900. The total credit card expense varies with sales because the fee has a constant 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 is able to sell it for $50, the company's cost of goods sold will be a constant rate of 60% ($30 / $50). Therefore, when the company has sales of $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 gross profit and 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.
