Many businesses aim to increase profitability by boosting sales of products and services. However, higher sales volumes don’t always lead to higher net profits, especially if your expense structure is inefficient. This is why it’s essential to focus on expenses as well as sales to improve profitability. Conducting a formal expense review can be a strategic approach to reducing costs. Here are four key areas to target your cost-cutting efforts:
- Labor Costs Assess your total employment costs, including salaries, wages, and employee benefits such as health insurance and retirement plan contributions. According to the U.S. Bureau of Labor Statistics, benefits account for more than a third of total employee compensation. In a competitive job market, offering attractive pay and benefits is crucial. Compare your total compensation for each role with industry benchmarks. Adjust if your compensation is significantly higher or lower than these benchmarks. If you choose to reduce salaries or forgo raises, consider adding cost-effective benefits and perks, such as flexible work hours or employer-provided lunches, to maintain morale and minimize turnover.
- Vendor Relationships Collect all vendor contracts for a comprehensive review by your management team. This includes contracts with suppliers, insurers, professional service providers, cleaners, landscaping companies, and technology firms. Identify any overlapping services from multiple vendors and eliminate unnecessary vendors or services. Designate a preferred provider for each expense category and negotiate the best price. Ensure employees use these preferred vendors unless there are approved exceptions. Additionally, consider renegotiating leases for equipment and property to secure more favorable terms.
- Advertising Work closely with your advertising agency to evaluate the effectiveness of your current campaigns. Some businesses spend thousands on ads with minimal returns. Your agency should provide a clear return on investment (ROI) for all programs. Based on this analysis, cut or reduce spending on ineffective campaigns and reallocate funds to more successful ones. Consider putting your advertising account out for bid if you haven’t done so recently. Agencies often increase rates annually, which can significantly raise costs over time. Inform your current agency that you’re exploring options and request their best price. Switching agencies could also bring fresh ideas and new strategies to boost sales.
- Interest If your business borrows money for equipment, real estate, or working capital, interest expenses are likely significant on your income statement. With rising commercial interest rates, these expenses have probably increased if you have variable-rate loans. Your operations should generate returns higher than your debt costs. If not, high interest expenses could cause financial strain. Explore ways to lower borrowing costs, such as shopping for loans with shorter terms or fixed rates to protect against further rate increases. Manage inventory and receivables more efficiently to reduce reliance on lines of credit. Additionally, consider using some operating cash to pay down outstanding loans instead of distributing dividends or bonuses.
Continuous Improvement Process
Being cost-conscious is beneficial. Review each expense line on your income statement to determine its necessity. Every dollar of excess expense you cut can improve your bottom line. However, be cautious—haphazard cuts can harm future sales or productivity. Achieving the right balance in cost-cutting is crucial. Consult with us at Accavallo & Company, LLC for assistance in conducting a formal expense review to identify sensible long-term cuts for your business.
