Reading 20 | |
| In this lesson you will learn that at certain times all entrepreneurs have some fixed costs that must be paid no matter how many products are offered for sale. Variable costs change with the number of products offered for sale. By identifying and con-trolling their costs, entrepreneurs are better able to earn a profit and be successful. | Anyone who runs a business knows that some costs must be paid no matter how many products are offered for sale. For example, Alex owns a shoe store. He must pay his property taxes whether he sells 20 or 200 pairs of shoes each day. Mortgage payments (payments on the loan he took out to buy his building) must be made to the bank. Fire insurance, the lease on a delivery truck, and installments on a remodeling loan are other examples of costs Alex must pay regardless of sales. Expenses that must be paid no matter how many goods or services are offered for sale are called fixed costs . Other types of costs change with the number of products offered for sale. These are called variable costs . Variable costs include the wages of production workers or salespeople, raw materials, electric power to run machines, and the cost of maintaining inventory. If Alex decides to offer more types of shoes for sale, he will need to hire more people to stock and sell these items. Alex's inventory costs will grow as well as his shipping costs for any products that he either buys or sends to customers. These are all examples of variable costs. Entrepreneurs need to understand the important differences between fixed and variable costs and how these differences affect a firm's success. Fixed costs must be paid. Sometimes they are called "sunk costs" because at the present they are beyond the control of the entrepreneur. If Alex has signed a lease for his store that requires a $1,000 payment each month, he must make the payment no matter how many products he offers for sale. The only costs an entrepreneur has immediate control over are variable costs. Alex may be required to pay rent for his shoe store, but he can choose how many salespeople to hire or how many products to stock. The fact that entrepreneurs cannot change their fixed costs at the present does not mean they should ignore them. Fixed costs are generally paid out of the money earned from an entrepreneur's sales. If the entrepreneur can sell more products to earn more money, the fixed costs will be a smaller part of income. Let's look at an example of how this works. |