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What Is the Definition of Operating Cost?
Operating costs include all expenses associated with the day-to-day maintenance and administration of a business. More specifically, operating costs are costs associated with revenue-generating activities. Examples of operating costs include:
- Accounting and legal fees
- Bank charges
- Sales and marketing costs
- Travel expenses
- Entertainment costs
- Non-capitalized research and development expenses
- Office supplies costs
- Rent or lease payments
- Repair and maintenance costs
- Utility costs, the cost of electricity
- Salary and wage expenses
- Raw materials
- Overhead costs
- Property taxes
- Office expenses
Why Does a Business Need to Know Its Operating Cost?
You can’t figure out how much money you’re making if you don’t know how much it costs to make that money. That’s the idea behind operating costs.
If you subtract operating costs from total sales, you come up with your operating profit (otherwise known as operating income). That’s the measure of profitability from your core business, not including income from non-core sources, such as investments, sales of assets or the like.
3 Different Types of Operating Costs
Operating costs include the cost of goods sold (COGS) and operating expenses (OPEX). They also include depreciation and amortization.
Operating costs don’t include interest expenses (from debt service, for example) or taxes (on income or property, for example). They also don’t include startup costs or capital expenses, such as the cost of buying a new building or equipment.
Operating costs consist of three types of costs:
- Fixed costs. Fixed costs are those that do not change as sales rise or fall. They do not reflect the productivity of a company, and a company must continue to pay them irrespective of its performance. Such costs include overhead, administrative expenses, insurance, security, and equipment, among other things.
- Variable costs. Variable costs are those that change as a company's sales and production rise or fall. They include such line items as the cost of raw materials, production payroll, and electricity. As production increases, a company must buy more raw materials, hire more production personnel or use more electricity, incurring higher costs.
- Semi-variable costs. There is a third category of costs: Semi-variable costs, also known as a semi-fixed or mixed costs. Such costs may resemble fixed costs at or below a particular level of sales or production, but change as sales or production rise above that level. An example is overtime wages: Below a certain level of production, overtime is non-existent and fixed; above that level, it becomes variable and rises or falls as production does.