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Fixed vs. Variable Costs: How to Protect Your Business Profit · Profit Points Podcast

• 0:00
  SPEAKER_00: Hey, glad you're here.
• 0:01
  SPEAKER_00: This is Profit Points, and I'm Megan Schwant, your accounting sidekick and certified Profit First Professional in Fix the Snext Advisor.
• 0:09
  SPEAKER_00: If you're a small business owner who wants to actually understand what is happening in your business financially, not just survive it, but genuinely get it, you're in the right place.
• 0:20
  SPEAKER_00: Every episode covers one concept, uses real numbers, and ends with something you can actually do.
• 0:26
  SPEAKER_00: That's the deal.
• 0:27
  SPEAKER_00: Let's talk about today's topic.
• 0:31
  SPEAKER_00: I want you to think about the last time your business had a slow month.
• 0:36
  SPEAKER_00: Revenue came in lower than expected, maybe a client pause, maybe a project got delayed, maybe it was just a quiet season.
• 0:45
  SPEAKER_00: And I want you to think about how you felt financially.
• 0:50
  SPEAKER_00: Did the business absorb it without too much drama?
• 0:53
  SPEAKER_00: Or did it feel like everything got tight all at once?
• 0:57
  SPEAKER_00: Like the margin for error completely disappeared.
• 1:01
  SPEAKER_00: That difference between a slow month that is uncomfortable and a slow month that is genuinely dangerous almost always comes down to one thing: not how much revenue you make, not how hard you work, how your costs are structured.
• 1:17
  SPEAKER_00: I'm Megan Schwann, your accounting sidekick.
• 1:19
  SPEAKER_00: This is Profit Points, where we turn the financial decisions you are making accidentally into ones that you are making intentionally.
• 1:28
  SPEAKER_00: Today we are talking about cost structure and why understanding it might be one of the most important things you do for your business this year.
• 1:37
  SPEAKER_00: So most business owners think about expenses as one category, money going out.
• 1:42
  SPEAKER_00: And that is right to a point.
• 1:45
  SPEAKER_00: The goal is, though, is to keep it reasonable and move on.
• 1:48
  SPEAKER_00: What almost nobody does until something goes wrong is think about how different expenses behave differently, how some costs are completely predictable regardless of what revenue does, and how others flex naturally with the volume of work coming in.
• 2:08
  SPEAKER_00: That distinction sounds like an accounting technicality, but it's not.
• 2:13
  SPEAKER_00: It is a strategic reality that determines how resilient your business is in a downturn, how efficiently it scales in growth, and how much financial risk you are carrying right now without knowing it.
• 2:28
  SPEAKER_00: Most business owners only discover their cost structure when revenue drops unexpectedly and they suddenly realize how little room they have to maneuver.
• 2:37
  SPEAKER_00: Flashback to 2020.
• 2:39
  SPEAKER_00: The goal of today's episode is to make sure you understand yours before that moment arrives and not during it.
• 2:48
  SPEAKER_00: So today, our profit point that we are going to talk about is fixed versus variable cost.
• 2:54
  SPEAKER_00: There are two types of costs in every business.
• 2:56
  SPEAKER_00: Fixed costs are the expenses that exist regardless of what your revenue is doing.
• 3:01
  SPEAKER_00: Examples of this would be things like rent, your office base, base software subscriptions, insurance, your own salary if you have it structured as a consistent payment.
• 3:12
  SPEAKER_00: These costs show up every month whether you have two clients or you have 20 clients, whether revenue is strong or it's soft.
• 3:22
  SPEAKER_00: They are committed and they do not negotiate.
• 3:25
  SPEAKER_00: Variable costs are the opposite.
• 3:28
  SPEAKER_00: They typically scale with your volume.
• 3:30
  SPEAKER_00: Things like contractor's hours, materials, merchant processing fees, performance-based bonuses, subscriptions that are dependent on the amount of clients.
• 3:40
  SPEAKER_00: When you are serving more clients, generating more revenue, those costs go up.
• 3:45
  SPEAKER_00: When revenue drops, they naturally come down with it, or they should.
• 3:50
  SPEAKER_00: They breathe when the business rather with the business rather than holding their position regardless of conditions.
• 3:58
  SPEAKER_00: Understanding which of your expenses fall into each of these categories matter for different reasons.
• 4:03
  SPEAKER_00: And I want to talk to you about those two reasons for right now.
• 4:08
  SPEAKER_00: The first is margin.
• 4:09
  SPEAKER_00: As your revenue grows, your fixed costs stay exactly where they are, which means they represent a smaller and smaller percentage of your total revenue over time.
• 4:18
  SPEAKER_00: As your revenue grows, that percentage of those costs goes down.
• 4:22
  SPEAKER_00: A business with$5,000 in fixed monthly costs, making$15,000 in revenue is going to carry those costs at 33% of revenue.
• 4:32
  SPEAKER_00: That same business, once it gets to$25,000 in revenue, is carrying that those same exact costs, but now they're only 20% of the income.
• 4:42
  SPEAKER_00: Nothing changed about the costs.
• 4:44
  SPEAKER_00: The revenue did the work.
• 4:46
  SPEAKER_00: This is called operating leverage.
• 4:48
  SPEAKER_00: And it is one of one of the most powerful tactics or dynamics in a growing business when it is working in your favor.
• 4:56
  SPEAKER_00: The second reason is risk.
• 4:58
  SPEAKER_00: And this is the one that does not get talked about nearly enough.
• 5:02
  SPEAKER_00: And I want to tell you a story related to this.
• 5:05
  SPEAKER_00: And I think I'll I think you'll get a lot out of it.
• 5:07
  SPEAKER_00: So a few years ago, I was working with a small business owner who had built something really impressive.
• 5:13
  SPEAKER_00: Like she had grown her revenue from about 10,000 to nearly 22,000 in just two years.
• 5:19
  SPEAKER_00: And during that growth period, she had made a series of decisions that each made complete sense at the time, each of those individually.
• 5:28
  SPEAKER_00: One of the decisions was that she hired a full-time operations manager.
• 5:32
  SPEAKER_00: She also signed a lease on a real office space instead of just working out of her home.
• 5:37
  SPEAKER_00: She felt like she was a business and that she had earned it.
• 5:40
  SPEAKER_00: She brought on a full-time team member to handle client delivery.
• 5:44
  SPEAKER_00: Each of those three decisions individually felt like a natural reflection of her growth.
• 5:50
  SPEAKER_00: And then she lost two significant clients in the same month.
• 5:54
  SPEAKER_00: Her revenue dropped from$22,000 to$13,000 almost overnight.
• 6:00
  SPEAKER_00: Has anybody else been there?
• 6:03
  SPEAKER_00: Her fixed costs, like her the salary for the employees, the lease, the full-time team member, those did not move.
• 6:10
  SPEAKER_00: They were fixed costs.
• 6:12
  SPEAKER_00: They stayed exactly where they were.
• 6:13
  SPEAKER_00: And so suddenly she was looking at$16,000 in fixed monthly commitments and she only had$13,000 in revenue.
• 6:21
  SPEAKER_00: The business was cash flow negative before a single variable expense was paid.
• 6:27
  SPEAKER_00: Those were just her fixed costs, not her variable costs.
• 6:30
  SPEAKER_00: She was not in that position because she had made bad decisions.
• 6:34
  SPEAKER_00: Each decision had been reasonable in isolation on its own.
• 6:38
  SPEAKER_00: She was in that position because she had converted almost all of her variable costs into fixed ones during that growth phase.
• 6:45
  SPEAKER_00: And she did not calculate what her cost structure would look like if revenue pulled back.
• 6:51
  SPEAKER_00: This is the risk side of this conversation.
• 6:54
  SPEAKER_00: It is the reason that being thoughtful about when and how you convert variable costs to fixed ones is one of the most important financial decisions a growing business owner makes.
• 7:04
  SPEAKER_00: This is often why people start when they start adding team members.
• 7:09
  SPEAKER_00: Even I did this.
• 7:10
  SPEAKER_00: When you start adding team members, you add them as contractors because there's more flexibility with a contractor in that respect, where they're typically less hours for a longer period of time versus having employees that now you're committed to.
• 7:26
  SPEAKER_00: So let's talk through this with a side-by-side example so that you can really see the difference and not miss it.
• 7:33
  SPEAKER_00: So we're going to talk about two businesses, same revenue to start.
• 7:36
  SPEAKER_00: Let's say that revenue is$20,000 a month.
• 7:39
  SPEAKER_00: Business A has$8,000 in fixed costs.
• 7:43
  SPEAKER_00: Those are the costs that are same no matter what.
• 7:45
  SPEAKER_00: And$4,000 in variable costs.
• 7:48
  SPEAKER_00: So total expenses is$12,000.
• 7:50
  SPEAKER_00: That's a margin of 40%.
• 7:53
  SPEAKER_00: Business B has$12,000 in fixed costs and$2,000 in variable costs.
• 7:59
  SPEAKER_00: That's a total of expenses of$14,000.
• 8:02
  SPEAKER_00: So the margin is 30%.
• 8:04
  SPEAKER_00: Now let's say revenue drops for both businesses to$14,000 in a slower quarter.
• 8:10
  SPEAKER_00: Business A had fixed costs at$8,000.
• 8:14
  SPEAKER_00: And then the variable costs, which were at$4,000, dropped proportionately to$2,800.
• 8:21
  SPEAKER_00: So now the total expenses are$10,800.
• 8:25
  SPEAKER_00: That margin is now 23%, which is painful and stressful, but it's survivable because there's still more coming in than going out.
• 8:35
  SPEAKER_00: The business has room to breathe, it's still profitable.
• 8:38
  SPEAKER_00: But business B, who had fixed costs of$12,000, so those are going to stay the same.
• 8:44
  SPEAKER_00: The variable costs dropped to$1,400.
• 8:47
  SPEAKER_00: They went from$2,000 to$1,400.
• 8:50
  SPEAKER_00: So not a huge difference, right?
• 8:52
  SPEAKER_00: So total expenses stay at$13,400.
• 8:56
  SPEAKER_00: And revenue, which remember dropped down to$14,000.
• 9:00
  SPEAKER_00: Now only has, they now only have a 4% margin.
• 9:03
  SPEAKER_00: The business is barely covering its costs.
• 9:06
  SPEAKER_00: One more slow month, and it's going to be in serious trouble.
• 9:09
  SPEAKER_00: Same revenue, same revenue drop, but because of the variable versus fixed costs, completely different financial reality.
• 9:18
  SPEAKER_00: And it's based entirely on these costs and how they're structured and before the drop happened.
• 9:24
  SPEAKER_00: There's been how they're structured before that drop happened.
• 9:27
  SPEAKER_00: Okay, hopefully you follow that because it's a really great demonstration of that.
• 9:31
  SPEAKER_00: Now we don't have the details of what that is, but that's something that you can do.
• 9:35
  SPEAKER_00: So this week on your action item, I want you to go through your PL, go line by line through your expenses next to each one.
• 9:43
  SPEAKER_00: Write an F for fixed or a V for variable, then add up your fixed expenses and divide that by your total expenses.
• 9:51
  SPEAKER_00: That's the percentage of that percentage is your fixed cost ratio.
• 9:56
  SPEAKER_00: If it's above 70%, you are carrying significant downside risk.
• 10:01
  SPEAKER_00: That means that if your revenue drops hard and fast because of whatever happens, there's very little cost movement that's going to happen with that.
• 10:11
  SPEAKER_00: And that's a big risk.
• 10:13
  SPEAKER_00: If it's below 50%, you have meaningful flexibility, which means your expenses will breathe when if you know business goes soft, if the revenue side goes soft.
• 10:24
  SPEAKER_00: Figure that out.
• 10:25
  SPEAKER_00: Write your ratio down.
• 10:27
  SPEAKER_00: This is not a number to calculate once and forget it.
• 10:30
  SPEAKER_00: It's a number to revisit every time you make a decision that converts something variable into something fixed.
• 10:37
  SPEAKER_00: Things like a new hire, a lease, a retainer commitment.
• 10:40
  SPEAKER_00: Those are things that should get associated then with being a fixed cost.
• 10:45
  SPEAKER_00: Um, what I want you to feel when you have that ratio in front of you is not judgment, but clarity.
• 10:51
  SPEAKER_00: Remember, all these conversations are about clarity and just making sure that you have a better idea of how your business is operating, how your numbers relate to the success and sustainability of your business.
• 11:04
  SPEAKER_00: Clarity about your cost structure means that the next time you have a slow month, slow and slow months always happen.
• 11:12
  SPEAKER_00: They arrive because of multitude of things, but they happen.
• 11:16
  SPEAKER_00: You will already know whether a business is built to absorb it or whether it needs a different plan.
• 11:21
  SPEAKER_00: That knowledge is not just financial, it's the kind of thing that lets you sleep at night.
• 11:27
  SPEAKER_00: Okay, so closing thoughts: your cost structure is a choice.
• 11:32
  SPEAKER_00: The problem is that most business owners make it accidentally, one reasonable decision at a time without ever stepping back to look at the whole cumulative picture.
• 11:42
  SPEAKER_00: The business that survives downturns and thrive and growth are almost always the ones that make that choice intentionally, not because they predicted the future, but because they understood their structure before that moment happened.
• 11:56
  SPEAKER_00: Um, and that's when it really matters most.
• 11:59
  SPEAKER_00: You do not have to wait for a slow quarter to understand your cost structure.
• 12:04
  SPEAKER_00: You can know it right now.
• 12:06
  SPEAKER_00: And if it doesn't look the way that you want it to or you expected it to, you can start taking action on changing that.
• 12:14
  SPEAKER_00: Okay, so if you looked at your fixed cost ratio this week, or you're going to, and you realize that you're carrying more risk than you knew, we're here to, I'm here to help support you.
• 12:25
  SPEAKER_00: Let's talk about it.
• 12:26
  SPEAKER_00: That is the this is the exact kind of strategic financial conversations we have with our clients at Sidekick Accounting.
• 12:32
  SPEAKER_00: And it's the kind of conversation that is much easier to have before a problem than during when, right?
• 12:38
  SPEAKER_00: Like they say, you want to make sure you're ready before all that chaos arrives, right?
• 12:43
  SPEAKER_00: So book a call if you're interested in talking more about that.
• 12:47
  SPEAKER_00: You can go to chatwithmeg.com, takes you to my website.
• 12:50
  SPEAKER_00: And in the meantime, I will see you on the next episode.
• 12:53
  SPEAKER_00: Please feel free to share a like and comment on this.
• 12:56
  SPEAKER_00: I appreciate it so much.
• 12:58
  SPEAKER_00: And I will talk to you next time.
• 13:00
  unknown: Bye.
• 13:01
  SPEAKER_00: All right, that's your episode this time.
• 13:03
  SPEAKER_00: Don't forget your action step.
• 13:05
  SPEAKER_00: I want you to actually do it, not just add it to the list.
• 13:08
  SPEAKER_00: If this episode was helpful, share it with a fellow business owner who needs to hear it.
• 13:12
  SPEAKER_00: And if you're ready to go deeper on your specific numbers, book a strategy call with Sidekick Accounting.
• 13:18
  SPEAKER_00: Go to chatwithmeg.com, and I'll see you next time on Profit Points.