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Variable overhead costs are those cash payments that change at different levels of activity. Companies only have to pay these costs once they begin a specific activity or any number of activities together. Accountants tend to group variable overhead costs into categories that include production, employees, and a larger group called general, selling, and administrative costs. Companies may favor these costs because capital retention is simple: Cut activities that reduce cash. In some cases, however, variable costs can be higher early on until a company reaches a predetermined price point for cheaper rates.
Production costs fall into one of three categories: direct materials, direct labor, and variable overhead costs. All three of these categories are a part of a company’s variable operating costs. Direct materials are the requisite items necessary to produce a particular good. Direct labor is the man-hours used to transform any direct material into a final product. Variable overhead costs can be any number of items, such as utilities, indirect materials for producing goods, and hourly maintenance staff, among other types.
Most employees in a company fall under the general category of variable overhead costs. These individuals work on hourly rates, with the longer hours worked equaling higher individual pay rates for the corresponding employee. A danger here is that employees may run into overtime, which typically represents a set number of hours an employee works above the standard time. This can greatly increase variable overhead costs for personnel in the business. Other variable employee costs include the employer side of payroll taxes paid from the company’s coffers to the necessary government agency or department.
General, selling, and administrative costs are the costs that have inclusion on a company’s income statement. In real accounting terms, these items fall under the classification of expenses. Accountants tend to view them as variable overhead costs as they are necessary expenditures to obtain the resources needed to run operations. Examples here may be utilities for offices, payments for cleaning facilities, and sales commissions. These expenses are often under close scrutiny to ensure the company does not exceed its budget for variable expenses.
In some cases, a company may be on a stair-step system for variable overhead costs. For example, as a company incurs higher variable costs, vendors and suppliers will offer slightly cheaper rates. This induces a company to increase spending at times in order to receive this price break.