Cost Model

The Bottom Half of Your Income Statement

By now, you should have completed three major pieces of your financial plan:

Estimate Total Startup Costs
Develop a Funding Plan
Prepare a Credible Sales Forecast

Now it’s time for Step 4: Build a Cost Model.

A cost model captures every expense required to run the business and forms the foundation of your projected Profit & Loss Statement (Income Statement).

To keep things simple and complete, all business expenses fall into three buckets:

1. Variable Costs (Costs That Scale With Sales)

Variable costs increase when sales increase.

These are the direct costs required to deliver your product or service.

These costs typically show up as Cost of Goods Sold (COGS).

Common examples:

Product materials and manufacturing
Packaging and shipping
Sales commissions
Hourly labor tied directly to customer work
Payment processing fees (often missed!)

Rule of thumb:
If you don’t make the sale, you don’t incur the cost.

2. Fixed Costs (Operating Expenses That Stay Mostly Stable)

Fixed costs stay relatively consistent month to month, even if sales fluctuate.

These are the expenses required to keep the business running.

Fixed costs typically fall under Operating Expenses (OpEx).

Examples:

Rent or lease payments
Salaried employees
Insurance
Software subscriptions
Marketing retainers
Office and admin costs

Rule of thumb:
These costs exist even if revenue is zero.

3. Non-Operating Costs (Not Part of Core Business Operations)

Non-operating expenses are not tied to delivering your product or running day-to-day operations.

Most common examples:

Interest expense on loans
Income taxes (for C-Corporations)
Depreciation expense

Occasionally:

Litigation
One-time disaster events
Unusual settlement costs

Variable Costs: What Does It Cost to Deliver the Sale?

Start by estimating everything required to put the product or service into the customer’s hands.

For Product Businesses, Variable Costs Include:

Raw materials
Direct labor
Factory or production costs
Packaging
Freight and delivery
Storage and fulfillment

Key question:
What is the fully loaded cost to land one unit into the customer’s hands?

For Service Businesses, Variable Costs Include:

Contractor or hourly labor tied to projects
Travel for client work
Supplies consumed during delivery
Project-specific software or tools

Example:
A consultant bills 10 hours to a client project → that labor is variable.

Measuring Variable Costs: Two Practical Approaches

Approach 1: Bottom-Up Costing (Most Accurate)

Estimate the true unit cost by adding up all direct inputs.

Example: Online Apparel Business (1 Pair of Jeans)

Cost Element Unit Cost

Materials $ 27.10

Direct Labor $ 3.33

Production Overhead $ 1.05

Packaging & Storage $ 0.80

Shipping $ 4.50

Fulfillment Fees $ 0.70

Other Direct Costs $ 0.20

Total Variable Cost $ 37.68

This approach gives maximum control, but requires more data.

Approach 2: Industry Gross Margin Benchmarks (Fastest)

If your business has many products or services, estimating each unit may be unrealistic.

Instead, apply an industry gross margin range:

Gross Margin % = what you keep
Variable Cost % = what it costs to deliver

Example:

If your industry averages 40% gross margin:

Variable costs ≈ 60% of sales

This method is quick and often good enough for early forecasting.

A Smart Simplification: Group G&A Expenses

Many founders overcomplicate forecasting by listing 40 small admin costs.

Instead, group into:

General & Administrative (G&A)

Includes:

Office support
HR and accounting
Legal and compliance
Supplies, phone, bank fees

Best Practice for Estimating Fixed Costs

Don’t guess — validate.

Reality check methods:

Pull real vendor pricing (QuickBooks, Shopify, insurance brokers)
Use wage benchmarks (BLS, Indeed)
Ask landlords for tenant utility averages
Talk to 3–5 business owners in your industry

That last one is often the most accurate.

Monthly Forecasting: The Final Step

Your cost model should be built monthly — not annually.

Monthly forecasting allows you to reflect:

Hiring delays
Ramp-up periods
Seasonal revenue swings
Expense timing differences

Examples of seasonality:

Ski resorts peak in winter
Tax prep peaks in spring
Landscaping peaks in summer

Final Output: A Forecasted Monthly Income Statement

Once complete, you will combine:

✅ Sales Forecast (monthly)
✅ Variable Costs (COGS)
✅ Fixed Operating Expenses
✅ Non-Operating Expenses

…to generate a full projected Income Statement by month.

That becomes the foundation for:

Cash flow forecasting
Break-even analysis
Funding needs
Profit planning

Startup Financial Plan

Startup Financial Plan

Create a Comprehensive Cost Model

The Bottom Half of Your Income Statement

1. Variable Costs (Costs That Scale With Sales)

2. Fixed Costs (Operating Expenses That Stay Mostly Stable)

3. Non-Operating Costs (Not Part of Core Business Operations)

Variable Costs: What Does It Cost to Deliver the Sale?

The Key Distinction: Direct vs Indirect Costs

Measuring Variable Costs: Two Practical Approaches

Approach 1: Bottom-Up Costing (Most Accurate)

Approach 2: Industry Gross Margin Benchmarks (Fastest)

Fixed Costs: The Monthly Operating Engine of the Business

A Smart Simplification: Group G&A Expenses

Best Practice for Estimating Fixed Costs

Non-Operating Expenses: The “Below the Line” Costs

Monthly Forecasting: The Final Step

Final Output: A Forecasted Monthly Income Statement

Cost Model Downloads

Contact Information

Matt Evans

Startup Financial Plan

Startup Financial Plan

Create a Comprehensive Cost Model

The Bottom Half of Your Income Statement

1. Variable Costs (Costs That Scale With Sales)

2. Fixed Costs (Operating Expenses That Stay Mostly Stable)

3. Non-Operating Costs (Not Part of Core Business Operations)

Variable Costs: What Does It Cost to Deliver the Sale?

The Key Distinction: Direct vs Indirect Costs

Measuring Variable Costs: Two Practical Approaches

Approach 1: Bottom-Up Costing (Most Accurate)

Approach 2: Industry Gross Margin Benchmarks (Fastest)

Fixed Costs: The Monthly Operating Engine of the Business

A Smart Simplification: Group G&A Expenses

Best Practice for Estimating Fixed Costs

Non-Operating Expenses: The “Below the Line” Costs

Monthly Forecasting: The Final Step

Final Output: A Forecasted Monthly Income Statement

Cost Model Downloads

Contact Information

Matt Evans

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