Explain fixed and variable costs with an example and why the split matters for decisions.

What the interviewer wants to hear

• Variable costs change with volume; fixed costs do not within a range
• Gives contribution margin per unit
• Drives break-even and operating leverage
• Helps pricing, special orders and capacity decisions

Model answer

Variable costs move with volume, while fixed costs stay the same within a normal range of activity. In a restaurant, food ingredients and delivery packaging are variable, while rent, the chef salary and equipment leases are fixed for the month. The split matters because it gives contribution margin: price minus variable cost per unit. Contribution is what pays for fixed costs and then creates profit. From it I can calculate break-even, for example how many covers a night the restaurant needs to stop losing money. It also shows operating leverage: a business with high fixed costs gains profit quickly when volume rises but loses quickly when it falls. And it helps decisions like whether to accept a bulk order at a discount: if the price is above variable cost and capacity is spare, the order adds contribution even if it looks loss-making on a full cost basis.

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