If you are running a business, big or small, you already know that the first step towards solving a problem is identifying it. When business owners sit down to plan their budget, costs are in focus. However, more often than not, the fixed costs occupy the centre stage while deciding on expenses. The periodic fixed expenses like rent, insurance and amortization are reviewed rigorously. Interestingly, these expenses, by definition, are fixed, and a periodic review may not yield substantial results.
However, do you know what often goes ignored but can make a significant difference? Yes,
variable expenses.
Now,
what is a variable expense? They are outgoes that are dependent on output and fluctuate with the volume of production. Variable expenses need to be clearly distinguished from discretionary expenses in a budgeting exercise. The
variable expenses list typically comprises:
- Raw materials
- Commissions
- Utility
- Contractual labour cost
- Transport costs
- Interest outgo
The discretionary expenses include entertainment budgets, training costs, bonuses and research & development.
Variable expenses usually increase with production output. Hence,
budgeting expenses of this kind is extremely critical as it directly impacts the breakeven point of a business. Variable expenses can make the single biggest impact on the cost of goods sold. It is precisely due to this reason that
variable cost reduction becomes a challenge.
So, what to keep in mind to ensure that variable expenses do not sink your business’s budget? Here are a few steps to take:
Identify: Businesses need to identify and isolate variable expenses as clearly and distinctly as they do fixed costs. Identification is the first step towards budgeting variable expenses correctly.
Evaluate value-addition: For every product sold, a review of the value addition that each item of the variable expense brings will help assign a value to that cost in the budgeting exercise. The process of eliminating the non-value addition variable expenses can then be undertaken.
Bulk buying: Raw materials account for a very large portion of the
variable expenses. A frequent and systematic review of the raw material purchase can lead to substantial savings. Bulk buying, finding fresh sources where discounting can be higher, and zeroing in on suppliers who give attractive credit options can reduce the amount of variable expenses.
Transport: Freight and fuel can become another substantial part of the
variable expenses when a business grows. A review of fleet sizes, the size of the transport vehicle itself and identifying new contractors can keep these expenses in check. Technology can help provide tracking devices that ensure no deviations happen en route, and thereby keep your costs low.
Communication costs: With increasing digitization, telecom can be a substantial variable expense by itself. These days, there is a constant stream of offerings from service providers too. Being nimble and taking advantage of these packages can make a significant difference to the budget.
Commissions: Most businesses underestimate the havoc commissions can inflict on their variable expense budgets. They settle on commission rates and structures in the initial days of the business, without extrapolating what these can amount to, as the business grows. Hence, commissions need to be structured the right way and reviewed frequently.
Outsourcing: This is an extremely popular option being exercised across a spectrum of industries, as outsourcing can ensure that a variety of variable expenses are reduced as well as limited.
To conclude Businesses will also do well to maintain a separate account to park savings derived from variable expenses, whenever possible, to finance those times and situations when costs may peak. Heating or cooling expenses, for instance, can vary on a monthly basis and eat into the funds that you can otherwise save for a rainy day.
So, at the end of the day, it is all about acknowledging, identifying, tracking, reviewing and reworking the
variable expenses, to ensure that these do not sink your budget or your business.
