Fixed costs

Fixed costs are those that do not change with the level of sales. If sales increase or decrease but nothing else changes then fixed costs remain the same. Common examples of fixed costs include rents, salaries of permanent employees and depreciation.

A high level of fixed costs increases operational gearing.

Costs that are not fixed are variable or semi-variable.

From an analysts point of view, accounts do not always provide enough information to separate fixed and variable costs, which is needed for financial modelling (to model how costs will change with revenues). In some cases cost of goods sold can be assumed to be variable (e.g., for a retailer, whose cost of sales is the cost of buying the goods sold.).

What accountants call variable costs, are roughly the same as what economists call short run variable costs. From the point of view of financial modelling, costs are likely to be fixed only over a certain range of conditions: if you are a manufacture who wants to increase production 5% you might be able to do so with your existing factories, and only pay for the increased consumption of raw materials, whereas if you want to double production you may need to twice as many factories so all your costs double.

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