Several types of expenses affect profits for a business including equipment costs, inventory and facilities costs. There are two main categories for all business expenses: operating expenses and overhead expenses. The costs that fall into each category depend on the nature of the business. Essentially, operating expenses are directly related to production, while overhead expenses are the costs to run the business.

Operating expenses include materials, labor and machinery used to make a product or deliver a service. For example, a soda bottler has the cost of aluminum for cans, machinery costs and labor costs. An easy way to determine the operating expenses for a particular business is to think about the costs that are eliminated by shutting down production for a period of time. For example, the soda bottler still has to pay the facility lease payments, but all costs related to the actual making of the soda cease.

Overhead expenses represent costs that are more static and relate to general business functions, such as paying accounting personnel and facility costs. In the scenario above with the soda bottler, the facility lease payments are still owed even if no current production takes place within the facility. Therefore, facility costs are overhead expenses. Likewise, the soda bottler still incurs other business expenses such as insurance and administrative and management salaries. Overhead expenses also include marketing and other expenses incurred to sell the product. For the soda bottler, this includes commercial ads, signage in retailer aisles and promotional costs. These costs still remain if production is shut down for a short period of time.

  1. How are fixed and variable overhead different?

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  2. How do some contra account types reduce book value?

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  3. What are the most common operating expenses for an online business?

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  4. How do operating expenses affect profit?

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  5. What is the difference between cost and price?

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  6. What are general and administrative expenses?

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