How to tackle rising business costs

Despite SMEs remaining resilient and optimistic, the costs of materials, importing, storage and general overall costs have increased significantly. Rising energy costs and unforeseen obstacles in supply chains have only added fuel to the fire.

Increases in the cost of sales lead to the question, to pass on or not to pass on? At present a large percentage of SME businesses are absorbing the entire cost increase themselves instead of passing it on to their customers, and many others absorbing most of the cost increases and passing on just a portion to their customers. These businesses are taking a longer-term view and by protecting their customers and nurturing their customer relationships they are hoping to hold on to their sales. This can be difficult to sustain long term. Businesses who resort to a policy of waiting it out until market conditions settle and normalise could be setting themselves up for inevitable failure. Those who adapt, adjust and remain agile in these market conditions will grow stronger and more profitable.

One way to remain agile in these tough market conditions is to have a sound business expense and cost management system. Below are some insights on how SMEs can reduce business expenses.

Understand your costs

Business expenses can assume various forms and broadly can be categorised as:

• Fixed costs – these costs stay the same regardless of profit, time or business activity. Even if you are not selling your products or services these costs remain the same. Common expenses that fall under this category are rent, payroll, Ioan repayments and insurance.
• Variable costs – these costs do change according to the output produced or sold. Common expenses under this category include direct materials, commissions, piece-rate labour.
• Semi-variable costs – these are costs a business has to pay regardless but the amount may change slightly depending on business activity. Common expenses under this category include utilities, operations payroll, telecommunications.
• Sunk costs – Money spent which cannot be recovered. Costs typically include marketing, fixed asset purchases.
• Opportunity costs – the difference between a chosen action versus one that is foregone
• Avoidable costs – items that are not necessary.

Performing a cost analysis and gaining a good understanding of your business costs and which category they fall into will allow you to make informed decisions on where changes and savings can be made. It will also provide greater insight into the overall performance of your business and can assist in performing breakeven and profitability analysis.

Perform breakeven and profitability analysis

Breakeven analysis entails calculating and examining the margin of safety a business has based on the income generated versus its associated costs. In other words, it tells you how many units of a product or service must be sold in order to cover the fixed and variable costs of the business.

The break-even point is calculated by dividing the total fixed costs of a business by the price per individual unit less the variable costs of production. In general, a business with lower fixed costs will have a lower breakeven point of sale. For example, a company with zero fixed costs will break even upon the sale of its first unit provided the variable costs of this unit do not exceed the sales price.

Performing break-even analysis on your business will help to make strategic decisions on what product and service lines are successful and profitable and identify others that may actually be loss-making. Having this data at hand will allow you to identify and focus on your most profitable products or services and as a result, you may decide to discontinue less profitable products and service lines.

Create a strategic budget

Most businesses will have some form of business plan and it is important to have a distinct section within your plan which includes a business operating budget. Your budget should be an extension of your business plan and will provide a guideline to follow and keep your expenses aligned to your business goals eliminating the risk of unnecessary expenditure along the way.

For this to be a worthwhile exercise, you must review your budget every month to check how your actual expenses have deviated from your original estimates. This will help alert you to areas of overspending and allow sufficient time to respond and find solutions to control them before it’s too late.

Monitor supplier costs

When reviewing your expenses, the first area most businesses should tackle, and monitor is their supplier costs. There are four key-ways to lower them:

1. Ask for a discount or discuss what value-adds they can provide. You may find your suppliers offering a rebate for early repayment of invoices in full.
2. Review your contracts. If you have been in business for a while evaluating your contracts and renegotiating their terms can be a great way to lower your costs. Your business has likely changed over the years and this is likely to be the same regarding your relationship with your suppliers. Cancel any contracts that no longer serve your business needs and renegotiate the ones necessary to get more favourable deals.
3. Investigate cheaper alternatives without compromising on quality. Whilst the lowest cost is not always the best value for money, in these difficult market conditions suppliers are also responding to market pressures and you may be able to negotiate a more favourable deal.
4. Partner with other businesses that are not in direct competition who can share costs with you.

Review your office space

Very often commercial/office space makes up a large proportion of a business's fixed costs. Re-evaluate the size and location of your space and whether is it required for your business needs. Ask yourself the following questions:

• Could you condense your office space by digitising documents and files or put them into storage?
• Would switching to a cheaper location sacrifice revenue or productivity?
• Can a proportion of your employees successfully work from home?
• Would a shared office space be suitable? Traditional commercial leases often offer a larger space but will bind you into lengthy expensive lease terms. Typically shared office spaces involve short term lease contracts that you can upgrade over time as and when required.

Review your team

Like office space, payroll is another large factor in most businesses' overall operating costs. Trimming your team is always an option if you have found you can reduce your staff count without impacting morale or productivity.

Training your employees on efficient time management can help keep your team on track throughout daily operations. Without efficient time management team members can easily become side-tracked and you can end up paying for an overhead that is not achieving your desired results.

Finally, consider outsourcing some of your tasks instead of managing an extensive line of salaried employees. Review your business for tasks that could be outsourced to third parties to save you from the burden of salaries and other benefits that are common for salaried employees every month. You will also save on the cost of office space and other related expenses.

Make the most of technology and the cloud

Traditional servers and hard drives require space, routine maintenance, and consume much power. Reduce your IT and energy costs by switching to the cloud instead. In addition to the cloud, there is a world of disruptive technology at your fingertips that can help streamline processes, save time and increase your output at a lesser cost than traditional methods.

Cut down on travel expenses

One of the best ways to reduce your travel expenses is to create a clear and strategic travel policy. This will clearly define what kind of expenses will be incurred by the businesses and set what parameters will be permissible. This will help prevent unnecessary splurges by employees at your business's expense.

Attempt to book trips as early as possible to enjoy early bird discounts on flights and accommodation and shop around for the best business credit card. Instead of using personal credit cards business credit cards are specifically designed for business owners and offer great rewards like cash back, discounts and bonus points you can put towards business-related travel.

Managing and reducing your business overheads may seem a daunting task but small changes and savings here and there can add up over the short to medium term. It does not need to be a drastic re-budgeting or downsizing exercise but gaining an understanding of your current financial position and where incremental changes can be made can put your business on a stronger footing in these challenging times and make a huge difference.

For more information, support in tacking rising costs in your business or to explore our range of outsourcing solutions across payroll, finance, management and HR and IR, please contact your usual Mazars advisor or alternatively our experts via the form below or on:

Author: Craig Reid

Published: 15/8/2023

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