The variable cost of running a business is the group of expenses that increases along with the output of the business. Examples include raw materials, packaging, shipping, waste disposal fees, and anything else that is directly tied into the amount of finished goods produced.
To use the simple example of a lemonade stand, variable costs would include the lemons, the sugar, the disposable cups used to serve the lemonade, and any garbage disposal fees that might be involved in getting rid of the lemon peels and used cups. All these costs increase along with the amount of lemonade that is made. Things like the cost of setting up the stand, buying a pitcher to hold the lemonade, and advertising would be considered fixed costs, since they remain the same regardless of lemonade output.
The variable cost of production sets the minimum price at which the product must be sold for profit. If the product is sold for less than the variable cost of producing it, the company will lose money on this product. However, it is important to remember that the company must still overcome the fixed cost of operation before it can make any profit, so there is also a minimum amount of product that must be produced to overcome the fixed cost.
Two risky ways related to variable cost to increase profits are to increase the amount of production or increase the profit margin – the price above the variable cost at which the goods are sold. In some cases these might not be viable options. If demand is not high enough, increasing production will not result in an increase in sales (and therefore profits) because there aren't enough people who want to buy the product. If competition with another company is too strong, raising prices may cause customers to buy the product from the competing business. Alternatively, finding ways to save money on raw materials or packaging are safer ways to reduce variable cost, although the company must be careful not to lower the quality of the goods thusly produced below what the customer finds acceptable.
Contrast with fixed cost.