Cost Structures Depending on the Business Model

Cost Structures

Cost is a very critical attribute for a startup. It has to be carefully estimated, strategically managed and correctly monitored.

There are two types of cost structures depending on the business model. One type is a cost driven business model. In this model costs are required to be minimal whenever possible. The down side of this model is that it offers a cheap value proposition as you might need to automate or outsource products or services, thus compromising your customer base and possibly loss of future business and lower Long term customer value to the business.

The other type of cost structure is customer focused, it is value driven structure. It ensures delivering the highest value to the customer. As opposed to the  previous model, this model has higher probability of ensuring higher customer retention rates and potential referral activities which in turn increases the long term value of customers.

I believe the best model is a hybrid between the above mentioned models. Thus we should employ a balance between a cost and value drives for our startup. Ensuring the delivery of superior customer value while keeping costs to minimum without compromising customer base.

Now I will discuss the different components of cost. One component is fixed cost. This cost type includes items such as salaries, equipment or property and rent. This cost does not vary much with volume of production or service. It might take staircase shape when your reach specific capacity or volume levels. The other component of cost is variable cost. This type includes materials used or maintenance and operating costs that are incurred as you produce or deliver services. Combines, those two costs components give an idea of the total costs that a business would incur during operation. A good estimate of those numbers in advance can help confirm the economic viability of a potential business idea and whether it’s worth pursuing.

There are different ways to optimize costs. One way is to divide fixed costs over higher volumes of production or service offerings, or be able to secure better deals due to bulk discounts or bigger order sizes to reduce transportation or packaging costs, which is economies of scale. You have to make sure you can secure the demand for the increased production. Another way to optimize cost is diversify product or service offering to take advantage of already existing resources. Economies of scope deal with the idea that producing different products or services is cheaper than producing a single item on its own.