Four Expenses That Will Dry Up Profits

I recently shared with you some small ways that your business could be leaking money. I hope you looked at those and analyzed your own potential leaks. But what about the BIG things that might be causing you to lose money? What if that something is keeping you from being profitable and reaching your goals as a business owner? These four items can be intimidating to think about changing or stopping, but we need to look at all aspects of your business to make sure you are operating efficiently for long-term success.

 

  1. Mismanaged Marketing

Business owners know that marketing is important. People need to know about your product or service, and marketing is normally how that message reaches potential customers. The problem is, marketing has become a department that gets overfunded again and again without enough oversight. Owners have been told that marketing efforts have a great ROI, so they should spend, spend, spend!

There’s an error in that logic though. SPENDING does not produce the ROI. Targeted and tailored efforts CAN produce ROI. So if your efforts are not focused, guided, and managed, it is very likely that you are hemorrhaging money there. Giving your business over to a marketing company and expecting miracles is foolishness. Marketing firms employ incredible professionals, but not magicians. They can’t make something from nothing. If you aren’t clear who your customer is, what you want to tell your customer, and what your products DO for your customer, you’re better off keeping that money in your pocket for now.

Action:

Assess your marketing spend and see if you can see positive correlation of revenue to marketing spend. Can you track that customers have come into your system through marketing efforts? If you can’t make positive correlations (and your marketing firm can’t either), you might want to send them packing.

If you do decide to keep going with your marketing team, make sure you have your goals clearly defined. Establish key metrics and goals so you can measure their performance over time.

  1. Pricey digs

Having a beautiful place to work is nice. We all like it. However, that prime location, gorgeous furniture, and amazing view likely come with a big price tag. How much are you paying for that posh place? Is it worth it? Office space can be worth the price if it can be directly correlated with increased sales. For example, if you run a retail shop and you are in a prime area for walk-in traffic, you will likely see higher sales because of your prime location. In contrast, an engineer who never gets walk-in clients doesn’t need to have a prime location or fancy artwork on the walls.

Action:

Think about the needs of your customers and if you think your location and quality of interior design matters to them. If you are a law firm, it might matter because you have clients coming into your office every day! If you are selling all your product online, your office space just needs to be functional.

Calculate the cost per square foot on your current office space. Do your market research in similar areas and see if you are paying a market rate. Research other acceptable areas as well. Are you way above market? If so, determine if your high rate is justifiable with your business. If you determine your high price is not worth it, review your lease and see what options you have to move. Also, if your space is way too big for you, consider a sublease to offset your pricey rent. Even storage space can be sublet to other businesses in a building. Make sure you look around for the right space for your business before signing a lease extension, it could save you thousands. Being armed with market data can also help you negotiate with a landlord, so having the information can help you even if you want to stay put.

  1. A Bad Business Segment or Product

Is it possible to be more profitable by bringing in less revenue? Absolutely! Many businesses have different products, business segments, or streams of revenue. Each of these will have direct costs and employee time associated to them. It’s possible for one of these segments to be sucking up resources without producing the revenue to cover the production costs. I’ll give an example where product B is sucking up employee time and costing too much to produce:

If this company cuts out product B from their lineup, they can focus their efforts on profitable products and reallocate employee time and materials into producing new or existing items.

This same concept can occur with a service-based business as well. Certain clients can take up so much time that they may prevent your staff from serving more profitable clients. It’s OK to fire clients!

Action:

Make sure your accounting system is set up to analyze your business based on the revenue and costs associated with each revenue stream. You need to be able to isolate each stream in order to determine if it’s profitable or not. If one segment is performing poorly, be realistic in analyzing the likelihood of that business increasing? Will cost efficiencies eventually happen where the product is profitable? Management will need to decide if that product is worth continuing if it’s dragging the whole business down with it.

With service based businesses, make sure your staff employees track their time by client/project. Perform regular assessments on your clients and the revenue/hour generated for each. If efficiencies can’t be gained internally, a client may need to be fired.

**I do want to caveat this point by saying: YES, sometimes businesses use a strategy to sell a product or service at a loss in order to gain more business by bringing people in the door. Retailers use this strategy all of the time because they know you will purchase more products once you are inside the store. Most small businesses can’t afford this strategy, but if you use it, know your numbers so you can prove if this strategy works for you.

  1. Unnecessary or Underutilized Employees

Employment expense is the most challenging and complex cost to cut in any business. However, employee expenses are usually the highest cost of any business.  Between salaries, employee benefits, taxes, cost of living adjustments, and insurance, employment costs can creep up very fast. Sometimes management becomes aware that certain employees are not being utilized well or they are not performing to necessary standards. Other times, revenue levels are too low to continue supporting the staffing level. Either way, there will be times in any business where management will have to make decisions to let employees go.

Action:

A well-run business should be assessing their revenue, expenses, and cash flow on a regular basis. Therefore, when you see employment expenses grow faster than revenue, this should be a red flag for you. The earlier you can act to make changes, the better. As a leader, you have the power to make changes BEFORE things get really bad. If you think you need to change your prices in order to keep up with employment expenses, maybe that’s the right decision. However, if you know your employee costs need to be reduced, it’s better to act decisively and quickly than to drag out a decision.

It is often helpful to categorize your employees into “revenue driving” and “admin” for the purposes of the analysis. Perform some “what-if” analysis on what your business would look like if each individual was not part of your organization. Sometimes revenue driving employees are very expensive but there is not enough work to keep them busy. If that’s the case, they may need to be let go. Sometimes admin people are critical to the operation of the business, so they may need to stay. This case-by-case analysis is what brings complexity to the process.

When making the considerations to reduce headcount, also consider the option of replacing the function with a consultant. For example, do you need an in-house graphic designer, or could a designer be hired on contract when needed? Do you need a full time administrative assistant, or could a virtual assistant be just as helpful? Could you outsource your accounting to a freelance CPA (like me)? These decisions to move some functions to consultants rather than employees can help you pay for only what you need and not pay all the expenses of an employee. It’s also WAY easier to cut ties with a consultant when you no longer need their services than to give an employee notice.

If you are in the position of needing to hire an employee, make sure you do the due diligence with your accountant of understanding the full cost of employment. Just because you hire someone else into your company doesn’t mean that they will be able to bring in more revenue to cover their expenses. Have a plan for each hire and how you will pay for them BEFORE you extend the offer.

The most important part in making decisions to reduce expenses in any of these four categories is that you have the data and numbers to make informed decisions. There’s a famous business adage that says, “If it gets measured, it gets managed”. Without accurate financial statements and transparency into your financial data, owners will by making decisions blindly.

If you aren’t sure what your business numbers are telling you, I can help you out. The numbers make a lot of sense to me, and I can break it down for you. I perform a Financial Statement Review Session that will point out weaknesses and strengths in your business, and I can help point out troubling expenses on your P&L.  You can schedule that session HERE.

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