Updated June 8, 2023
Definition of Fixed Costs Examples
Fixed cost is the company’s expense, which doesn’t change with the change in the production volume within the relevant range. The company has to pay it, independent of any activity in the business over that period. So, the periodic cost primarily remains unchanged. There are several examples of fixed costs. The below-mentioned different fixed costs example explains the different fixed costs present in any business and their calculation.
Top Fixed Costs Examples and Calculation Solution
The following list will identify and describe different costs to help you clarify a fixed cost.
Example – 1
Solution:
Following are some of the different types of Fixed Costs that the business enterprise has to incur:
- Lease on Office Space: Unless & until the business operates in the same building, the rent doesn’t change. It will be a radical cost.
- Utility Bills: Utility bills like electricity might vary per season but will not be affected by the business level.
- Website Hosting Costs: Monthly charges must be paid on registering the business website domain, which remains static irrespective of the business level.
- Property Tax: The property tax paid in respect of the office premises is as per the value of the property and not based on the scale of business.
- Interest Expenses: This is the cost of funds a lender funds to a business. The amount of interest will be based on the outstanding loan amount and not on the production or business level.
- Insurance: As per the initial agreement, you must pay this cost once a year, regardless of your business level.
- Amortization / Depreciation: These gradually charge the expense of intangible/tangible assets over their useful life. Its value depends on the valuable life of an asset.
- Salaries: Employers pay employees based on the initial offer, regardless of the hours they have worked.
Example – 2
Calculation of Fixed Cost
Mr. X started the bakery shop one year ago. During the last year, his business was working very nicely. But last month, two new competitors also started the same line of business in the same locality, which led to a decrease in the sale of bakery shop Mr. X, and it is expected that in the coming year, sales will decrease further. He has to incur the losses if he continues the operations. Seeing this, Mr. X is worried about whether it would be feasible to continue the business. During the month of January, it incurred some of the costs which are given below. Mr. X wants to know how much he spends against the fixed cost to analyze whether to continue the business.
Transactions
- Paid the rent for the whole year, amounting to $12,000.
- Paid the Electricity expense to the shop owner a whole year in advance, amounting to $3,600.
- Paid the cost of raw materials required for a bakery in the month of January, amounting to $2,000.
- The cost of labor based on the number of hours for preparing the finished goods is $600.
- The company paid $3,600 for insurance expenses for the whole year in the month of January.
Calculate the fixed cost for the month of January.
Solution:
Fixed cost = Monthly Rent + Monthly Electricity Expense + Insurance Expense
Fixed Cost = $1,000 + $300 + $300
Fixed Cost = $1,900
When deciding to continue business operations, the owner should exclude fixed costs they have already paid. The decision-making process should not factor in these costs.
Working
- You need to pay the rent in advance for the entire year, and the rent amount remains fixed. So it will be part of the fixed cost. In the present case, rent for the whole year is $12,000. So, for one month, rent will be $1,000 ($12,000 / 12).
- The shop owner collects advance payment for electricity for the whole year, and it is of a fixed nature, thus becoming part of the fixed cost. Therefore, it becomes part of the fixed cost. In the present case, Electricity expense for the whole year is $3,600. So, for one month, rent will be $300 ($3,600 / 12).
- Raw material changes with the production level, so this will not be considered a fixed cost and will be part of the variable cost.
- The number of hours worked directly affects the labor cost, making it a variable cost rather than a fixed cost.
- You prepay the insurance expense for the entire year, which remains fixed, making it a part of fixed costs. In the present case, the Insurance expense for the whole year is $3,600. So, for one month, Insurance expenses will be $300 ($3,600 / 12).
Example – 3
The company’s short-run cost function expresses the total cost (C) as 210 plus 51 times the quantity of output (Q). Next, calculate the fixed cost of the company.
Solution:
The short-run cost function C = 210 + 51Q represents the fixed cost of production with the number 210. This indicates that the quantity of output does not affect the fixed cost, and it remains constant regardless of the amount produced. So, in the present case fixed cost is 210 (unit of money).
Also, using the formula for calculating costs given by TC = FC + VC (Q), where FC is the fixed costs, it can be concluded that the fixed cost is 210 in the equation.
Conclusion
Even at zero levels of production or business level, you must incur the fixed cost because it is a committed cost. This concludes that if a business has a higher fixed cost, its profit margin will get squeezed when sales fall. The higher the fixed, the higher its breakeven quantity will be, meaning it has to sell many products to achieve a breakeven point: no profit or loss situation. Therefore, breakeven with a relatively high variable cost can estimate its per-unit profit margin more accurately. At the same time, a business model with a higher amount of fixed cost discourages the new entrant.
Recommended Articles
This has been a guide to Fixed Costs Examples. Here we discussed the Fixed Costs Example along with a detailed explanation. You can also go through our other suggested articles to learn more –
