Entrepreneurship and Small Business (ESB) Certification Practice Exam

What are fixed costs?

1. Expenses that vary based on production levels

2. Expenses that remain constant regardless of business activity

3. Expenses that are only paid when sales are made

4. Expenses that can be eliminated during downturns

The correct answer is: Expenses that remain constant regardless of business activity

Fixed costs are defined as expenses that remain constant irrespective of the level of production or sales activity within a business. These costs are incurred regularly and do not fluctuate with the volume of goods or services produced. Examples of fixed costs include rent, salaries of permanent staff, and insurance premiums. Understanding fixed costs is crucial for budgeting and financial forecasting, as they represent a baseline level of expenses that businesses must cover regardless of their operational performance. This stability allows for clearer financial planning and helps in determining the break-even point—the point at which total revenues equal total costs. The other options refer to different types of expenses. For instance, expenses that vary based on production levels are known as variable costs, which change in direct proportion to the amount of goods produced. Expenses that are only paid when sales are made indicate a commission-based structure, typically associated with variable costing or commission expenses. Lastly, expenses that can be eliminated during downturns relate more to discretionary or variable expenses that a business can adjust in response to changes in sales or economic conditions.