Variable Cost

Variable costs rise when output rises and fall when output falls. Common examples include raw materials, packaging, delivery costs, sales commissions and the wages of workers paid per unit produced.

For example, if each T-shirt a business makes requires 3 of fabric and printing, producing 1,000 shirts costs 3,000 in variable costs, and producing 2,000 shirts costs 6,000. The variable cost per unit stays at 3.

Understanding variable costs is essential for pricing and decision-making. The difference between a product's selling price and its variable cost per unit is its contribution margin: the amount each sale contributes towards covering fixed costs and generating profit.

Businesses with mostly variable costs are more flexible. When sales fall, their costs fall too, which protects profits. But they also benefit less when sales grow, because each extra sale brings extra costs.

In practice, many costs are neither purely fixed nor purely variable. Electricity, for example, may include a fixed standing charge plus a variable charge based on use. Such costs are called semi-variable or mixed costs.