What is a Legacy Cost?

A legacy cost is an expenditure that provides ongoing funding to something that is unrelated to revenues. The main examples of legacy costs are the ongoing pension and medical costs associated with both current and retired employees. Legacy costs are a particular concern for businesses that have large numbers of employees, and especially those older firms with a large number of retirees. These organizations incur legacy costs that newer organizations with different employment arrangements have been able to avoid, which negatively impacts their competitiveness. In particular, these costs increase the fixed cost base of a business, which drives its breakeven point upward. Consequently, many firms are highly focused on reducing legacy costs, which puts them in conflict with the unions that support these expenditures on behalf of their members.

Disadvantages of Legacy Costs

When a business has substantial legacy costs, such as pension costs, it will have a higher cost structure than its younger competitors. This leads it to have a lower profit margin, which in turn reduces the amount of available cash that can be reinvested in the business. Over time, this results in lowered competitiveness, which may lead to the demise of the business.