What is fixed cost: essential knowledge that every manager must know to control costs

Cost management is at the heart of effective business administration. Understanding the difference between fixed costs, which you pay regardless of whether the business produces a lot or a little, and variable costs, which change with production, helps companies plan finances better, set appropriate prices, and make smart investment decisions.

Fixed Costs Are Costs That Do Not Change with Production Volume

Fixed costs are expenses that remain constant regardless of whether the company produces a small or large quantity of goods. These costs do not increase or decrease with changes in production levels, meaning the business must pay these expenses whether it generates revenue or not.

A key characteristic of fixed costs is stability. Since these expenses do not fluctuate with sales volume, businesses can reliably forecast and incorporate them into annual budgets. However, the necessity to pay fixed costs at all times means the company needs a minimum level of revenue to cover these expenses.

Examples and Common Fixed Costs in Business

Fixed costs are not only related to production volume but also include long-term commitments that the company must bear. Here are some primary examples most companies encounter:

Rent for premises and buildings is one of the most significant fixed costs. The company pays rent regularly—monthly or yearly—regardless of customer purchases. Such rent remains unchanged.

Salaries of permanent staff are paid monthly at a fixed rate. Whether the company sells more or less, these salaries stay the same. This differs from wages paid per piece or commission, which are variable costs.

Insurance premiums—whether for assets or legal risk coverage—must be paid regularly, and the amount does not depend on production performance.

Depreciation of equipment and machinery is calculated as a fixed cost each period when a company purchases large machinery or equipment, regardless of how much they are used.

Loan interest must be paid monthly if the company has borrowed from a bank, and the amount is fixed according to the loan agreement, unrelated to production levels.

IT and telecommunications support costs—such as internet, phone, and server services—are paid regularly, regardless of usage intensity.

How Variable Costs Change with Production Volume

In contrast to fixed costs, variable costs change proportionally with production or sales volume. As a company produces more goods, variable costs increase; when production decreases, these costs decrease accordingly.

Key examples of variable costs include:

• Raw materials and consumables: More production requires purchasing more raw materials.
• Direct labor wages: Wages for workers directly involved in production, paid per piece or per hour, increase with higher output.
• Packaging and shipping costs: More products require more packaging materials and transportation expenses.
• Sales commissions: Some companies pay commissions based on sales volume, making this a variable cost.

Main Differences: When Is a Cost Fixed, and When Is It Variable?

To clarify further:

Fixed costs are expenses that remain constant regardless of sales performance or production volume. Businesses must pay these costs continuously, enabling better planning and forecasting, but they remain a burden if revenue is low.

Variable costs are flexible; when production drops, these costs decrease, and when production rises, they increase. Companies focusing solely on variable costs will see expenses shrink when revenue is low but will incur higher costs as sales grow.

Managing Both Cost Types to Increase Profit

For long-term success, strategic management of fixed and variable costs is essential:

Control fixed costs through long-term planning by reviewing rent, service contracts, and other commitments to ensure they align with revenue. Negotiating new deals or relocating to cheaper premises can reduce fixed costs.

Improve efficiency in variable costs by sourcing cheaper raw materials, optimizing production processes, or reducing waste.

Analyze the break-even point—the sales volume needed to cover both fixed and variable costs. This helps set sales targets and pricing strategies.

Consider investing in equipment—sometimes investing in machinery (which becomes a fixed depreciation cost) can reduce variable costs related to labor or materials over time.

Summary: Why Understanding Fixed and Variable Costs Matters

Fixed costs are crucial for business stability, while variable costs reflect operational flexibility. Understanding each helps managers make informed decisions about investments, production planning, pricing, and cost control.

Successful businesses know how to balance fixed costs—expenses paid continuously—and manage variable costs efficiently to set appropriate prices, reach break-even points, and generate sustainable profits in changing market conditions.