Costs are amounts that businesses incur to produce goods and services. There are variable costs that change with output and fixed costs that remain constant. Variable costs include raw materials and wages, while fixed costs include rent, salaries, and insurance. Total costs are the sum of fixed and variable costs. Understanding costs is important for entrepreneurs to manage profits, cash flow, and how costs may change with business decisions or activity levels. Accurately estimating all types of costs, which can be difficult, is crucial for business planning and forecasting.

1. Costs

2. What are costs?
Costs are amounts that a
business incurs in order
to make goods and/or
provide services

3. Costs – what entrepreneurs need to know
• What it costs to produce
the product or service?
• What the cost of marketing
the product is?
• How high are the
overheads of the business?
• What the potential costs of
a business decision are?

4. Costs are important because they..
• Are the thing that drains away the profits
made by a business
• Are the difference between making a good
and a poor profit margin
• Are the main cause of cash flow problems
in a small business
• Change as the output or activity of a
business changes – the entrepreneur needs
to know how these are likely to change

5. Variable & fixed costs
• Variable costs
– Costs which change as
output varies
– Lower risk for a start-up: no
sales = no variable costs
• Fixed costs
– Costs which do not change
when output varies
– Fixed costs increase the risk
of a start-up

6. Examples of variable costs
• Raw materials
• Bought-in stocks
• Wages based on hours
worked or amount
produced
• Marketing costs based on
sales (e.g. % commission)

7. Examples of fixed costs
• Rent & rates
• Salaries
• Advertising
• Insurance, banking & legal
fees
• Software
• Consultant and adviser
costs
• Design and development

8. Semi-fixed costs
• Some costs are fixed in the short-
term, but then change once a
certain level of output is reached
• Examples:
– Admin salaries: stay fixed until the
workload means someone else is
needed
– Rent: space can be enough for a
certain level of output until the
point at which the business needs
to move to somewhere bigger (or
take on more space)

9. Total costs
The total costs of a business can
be calculated using this
formula:
Total costs (TC) =
Fixed costs (FC) +
Variable costs (VC)

10. Total costs – example calculation
Graham’s Van Repairs Business
Forecasts for March
Variable costs per job £75
Garage rent & rates £500
Wages £1,500
Advertising £100
Other fixed costs £400
Expected number of jobs for month 100
What are Graham’s forecast total costs for March?

11. Graham’s Total Costs in March
Stage 1 - calculate variable costs:
= £75 x 100 = £7,500
Stage 2 - add together the fixed costs
= £2,500 (i.e. £500 + £1,500 + £100 + £400)
Stage 3 - add variable to fixed costs:
Total costs are £10,000 (£7,500 + £2,500)

12. Problems estimating costs
• Some costs are easy to estimate and
control:
– Rent, salaries, advertising campaign
• Others are much harder
– Raw materials – affected by wastage
– Product returns or refunds – affected by
quality
– Where the entrepreneur does not have
detailed experience of a market

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