Fixed vs variable: the categorisation that decides everything else.

1. The working definitions

A fixed cost is one that does not change with output volume within the relevant range. A variable cost is one that changes proportionally with output volume. Two common errors flow from misapplying these definitions: treating a step-fixed cost as variable (because it “goes up when we grow”), and treating a mixed cost as purely fixed (because the variable component is small).

2. The clean cases

Clearly fixed in most small businesses: rent on a leased space, the owner’s base draw, software subscriptions billed by user-tier rather than usage, business insurance, professional licences, the monthly accountant fee, equipment depreciation. These costs continue if you sell zero units.

Clearly variable in most small businesses: raw materials, ingredients, packaging, payment-processor percentage fees (the per-transaction fixed component is small but technically per-unit), shipping and freight on outbound goods, sales commissions calculated as a percentage of revenue, tip-out for service workers paid per shift completed.

3. The cases that get misclassified

Hourly labour for production staff. Often classified as variable in textbook examples. In practice, most small businesses pay production staff for scheduled shifts regardless of whether sales materialise. A coffee cart pays the barista for a 6-hour shift even if traffic is light. That payroll is fixed within the shift, not variable per cup. Reclassify variable only if you genuinely scale staff up and down with hourly volume (rare).

Utilities. Mixed. The base service charge is fixed; the consumption charge varies with volume. For most small businesses the mix is heavily fixed; treat the whole bill as fixed unless utilities are a material cost (industrial laundromat, cold-storage warehouse) where the variable component matters.

Marketing. Discretionary spending. Treat the recurring monthly minimum (the agency retainer, the always-on Google Ads spend at the floor budget) as fixed. Treat campaign-specific top-ups as outside the break-even calculation entirely — they belong in a separate “growth investment” line item, not in fixed cost.

Subscription software priced by usage. Variable per unit if usage genuinely scales with sales (a transactional email service billed per send). Fixed if it’s priced by user seat (a CRM at $50/user/month).

4. Step-fixed costs

A step-fixed cost is fixed within a range and steps up at a threshold. A retail store that occupies one suite below 5,000 sq ft of throughput and adds a second suite above pays a step-fixed rent. A workshop that hires a second supervisor when shifts double pays a step-fixed payroll.

For break-even purposes, treat step-fixed costs as fixed at the level appropriate to the planning volume, and recognise that crossing the threshold invalidates the calculation. If you are planning a 50 % volume increase that would cross a step, run the calculation at both step levels and decide whether the extra fixed cost is supportable.

5. Mixed costs and the high-low method

A mixed cost has a fixed component plus a variable component. To decompose for break-even purposes, use the high-low method: take the total cost at your highest observed volume month and at your lowest, compute the slope (cost difference / volume difference) as the variable rate per unit, and infer the fixed component from either point. The method is approximate but adequate for planning — statistical regression is the more rigorous alternative when you have enough data points.

6. The owner’s draw question

Should the owner’s salary be in fixed cost? Yes, if you treat it as a true cost of doing business; no, if you treat it as a residual. The honest practice is to include a market-rate owner’s salary as fixed cost. A business that breaks even only because the owner is working unpaid is not actually breaking even — it is subsidising the operation with the owner’s opportunity cost.

7. The categorisation worksheet

For each line in your monthly P&L, ask: if I sold zero units this month, would this cost still occur? If yes → fixed. If no → variable. If it would occur partially → mixed; decompose. If it occurs irregularly outside any volume relationship (annual licence renewal, equipment repair) → treat as fixed and amortise across twelve months for the break-even calculation.