Fixed costs are expenses that do not change with production or sales volume — rent, salaried labor, insurance, and depreciation are examples. They exist regardless of whether the business sells one unit or one million.
Fixed costs create the baseline financial obligation a business must cover before earning any profit. A restaurant pays rent, utilities, and manager salaries whether it serves 20 covers or 200 on a given day. A manufacturer pays its plant depreciation and supervisory salaries whether production runs at 30% or 100% capacity. Higher fixed costs mean higher operating leverage: a small change in revenue produces a larger change in operating income. This is advantageous when revenue grows (profits accelerate) and dangerous when revenue falls (losses accelerate). Businesses with high fixed-cost structures are more sensitive to revenue volatility. The fixed/variable cost split shapes break-even analysis. Break-even revenue = fixed costs / contribution margin ratio. A business with $500,000 in monthly fixed costs and a 40% contribution margin needs $1,250,000 in monthly revenue to break even. Adding more fixed costs (new equipment, new hires) raises this threshold. Lenders evaluate fixed cost coverage when assessing debt service capacity. A business with high fixed costs relative to revenue leaves less cushion to absorb new debt service. DSCR analysis implicitly evaluates this — net operating income (after fixed costs) must cover debt payments by the required ratio.
Most are fixed in the short run but adjustable in the long run. Rent can be renegotiated at lease renewal. Salaried headcount can be reduced. Insurance premiums change at renewal. Economists distinguish 'short-run fixed costs' (locked-in contractually) from 'long-run fixed costs' (adjustable with time). For near-term financial planning, treat them as fixed.
New debt service is itself a fixed cost — it doesn't shrink when revenue drops. Lenders assess your existing fixed cost base relative to revenue (through DSCR and similar metrics) before adding new debt service. High existing fixed costs reduce the available margin for debt payments, pushing borrowers toward lower loan amounts or shorter terms.
Some costs are fixed within a range but jump at certain thresholds — called 'step costs' or 'semi-fixed costs.' A business needs 1 supervisor per 10 production workers: cost is fixed from 1–10 workers, then jumps when an 11th worker requires a second supervisor. Supervisory labor, warehouse space, and IT infrastructure often behave this way.