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Managing your business overheads
  • Nov 4, 2022

Managing your business overheads

A Numbers Game - Overheads Drive Costs Up

Original article 13 Feb 2020 - Updated 27 Feb 2024

Business overhead costs are expenses that are related to the day-to-day running of a business. Overhead costs do not include Operating expenses arising from the production of goods or services.

The difference between overhead and operating expenses are:

Operating expenses are the result of a business' normal operations, such as materials, labour and machinery involved in production.
 
Overhead expenses are what it costs to run the business, including rent, insurance, and utilities.

Business Overheads

Examples of overheads costs include:

  • Accounting and legal expenses.
  • Administrative salaries.
  • Depreciation.
  • Insurance.
  • Licenses and government fees.
  • Property taxes.
  • Rent.
  • Utilities.
  • On-Line Hosting

"Spending money is a necessary part of building a business. Business owners can attribute many costs to producing or creating a product or service. These are known as direct [or operating] costs. The expenses that are not associated directly with building a product or service are known as overhead costs or indirect costs.

If business owners aren't careful, overhead costs can quickly become a drain on business revenues. Business owners will want to take the time to figure out how to calculate overhead costs. Once they figure out how to do so, they should look into ways to cut back on these expenses.

Although overhead costs are critical to business operations, they do not lead to a generation of profits. Additionally, overhead costs tend to be fixed. For instance, your rent payment tends to stay the same from month to month.

Overhead costs are notably different from direct costs. Direct costs, which can include direct labour and direct materials, are ones associated with the creation of a product [or service]. Direct costs are variable costs. By adding direct expenses and overhead costs on the income statement, you'll see the total costs for your business."

(Megan Sullivan. June 24, 2019 12 Tips to lower your overhead costs)

To calculate the overhead rate, divide the indirect costs by the direct costs and multiply by 100. If your overhead rate is 20%, it means the business spends 20% of its revenue on overhead costs to produce a good or provide a service. A lower overhead rate indicates efficiency and more profits.

In a business that is performing well, an overhead percentage that does not exceed 35% of total revenue is considered favourable. In small or growing firms, the overhead percentage is usually the critical figure of concern. It is recommended that an overhead rate of less than 10% should be attempted.

Keeping the business overheads as low as possible means a product or service can be offered at a more competitive price without lowering the profits margin.

Office Space

Depending on your organization's size, it might be time to relinquish your office space and move to a work-from-home model. Consider location as well. Do you really need to be paying rent for a high-priced office in the middle of the city?
Consider what you use your office for, how often you're there, and why you have it. If you feel you still need an office, consider downsizing or look into office rental alternatives like shared co-working spaces.

"Nationally, capital values of office properties have dropped by 9 per cent over the past 12 months."

(Quentin Tod Gold Coast Bulletin. December 4, 2023)

Three Percent Will Buy

Promoting a Business On-line

A small business may want to promote themselves on-line as an alternative to the more traditional and often very expensive advertising methods. Online expenses include:

  • Domain Names - $20 to $60 for a two year registration of a ".com.au" domain - depending on your domain name provider (or $12 to $20 for ".com domains").
  • Website Design - can range from $500 to $5,000+ depending on your web designer.

There are different charging schemes for different designers depending on how much design assistance is provided and whether you are forming an ongoing relationship with the company or not.

Some web designers may have no up-front design fees but give you no design assistance either - so you get a do-it-yourself editor and instructions.

Know what you are getting for your money and don't assume that using the free templates that come with a website will give you a website that can convert more visitors than a competitor who gets a unique look for their site.

If you choose a website provider who gives you a do-it-yourself website design tool, you will have to factor in the time it will take you to do your own design or the cost to get someone else to design it for you ($2,000 - $5,000+).

If you just go with the free setup and built-in templates option, you might not have the time to deliver the exact look that you want or that your customers expect. You can end up having to buy a website template for your site and then customize it ($200 - $800+ depending on the cart platform and provider), or paying someone else to do that for you.

  • Online Customers - less than 3% of the visitors to an online store will convert into customers, so you need to understand how many customers you need to get to your website or online store in order to sell enough products or services to cover your costs.

Benchmark Marketing Costs

Some "digital agencies" recommend a small business spend depending on their strategy-:

Strategy % of Revenue
Maintain 5% to 7%
Grow 7% to 10%
Dominate 10% to 15%

Always be wary of "digital agencies" recommendations for levels of spending on marketing. The overheads of a typical digital marketing agency guarantees a high monthly retainer just to cover their costs. However digital marketing costs are lower than traditional advertising like TV, radio etc. Marketing spend has actually reduced across most industries since the digital era source: (What is the Average Marketing Budget by Industry)

There appears to be a consensus of 7% - 8% of revenues for trades. When servicing existing customers, this will reduce.

What could you spend a marketing budget on?
  • Website
  • Social Media
  • Advertising
  • Apparel
  • Truck/Car Wraps
  • Signage
  • Marketing software
  • Training or education
  • Salary for a marketing manager or agency

Standard Business Costs

Many businesses starting up for the first time (whether they're online or offline) are not familiar with tax, superannuation and budgeting for tax payments. Not budgeting for payments to the country's tax organisation, Australian Taxation Office (ATO), can cripple your marketing expenditure once your website is already up and running,

It's very important that you budget for making your statutory obligation payments right from the outset in your initial year of business.

It is also important that you adhere to local, national and international corporate governance, compliance and codes of practice when embracing the web with your business.

The Rising Cost of Compliance

An ABC report 9th Nov 2023 found Red tape, compliance and regulation costs double for Queensland businesses

"For sole traders, the median cost increased from $2,000 to $4,000, while for businesses that had six to 20 employees, it increased from $42,500 to $75,000."

ABC Report 9th Nov 2023

Anecdotal evidience from a Gold Coast local accountant indicated the cost of going paperless was actually increasing business overheads as a consequence. Think PWC scandals and advice given to governments from private accounting firms that may be self serving.

Overheads Drive Business Costs Up

A Case Study

Gold Coast Login is a Web Development and Search Engine Optimisation (SEO) company based in Main Beach, Gold Coast, Queensland. Most of its clients are drawn from the South-East Queensland region, including: The Gold Coast, Brisbane and surrounds; and Northern New South Wales.
SEO is the process of optimising your website to get organic or un-paid traffic from the search engine results page. SEO's generally charge clients/businesses a monthly retainer to attempt to keep the client's website on the top pages of a web search engine such as Google.
The task of keeping a client's page in the top rankings also depends on whether the client wants to be found on local geographic search terms or on a national search basis.

Gold Coast Login keeps its overhead costs and charges down by working from a home-office using a small team of multi-disciplinary professionals with expertise in:

  • Web Development - construction and design
  • Search Engine Optimisation (SEO)
  • Research, Copywriting & Content Developer
  • Graphic, Visual, Animation and Audio - design, creation and applications

Therefore, Gold Coast Login offers lower prices while offering higher quality services than many of its competitors in the same field. This competitive edge is mostly due to the opposition's overhead costs for office rental and the operating costs of a larger group of employees and/or outsourced workers who are not multi-skilled.

"Our most important 'secret ingredient' is that we are foremost web developers who develop systems to work well for SEO. Getting sites to the top of Google is a by-product of the systems we build.

We don't out-source any of the systems we build - your web developer is also your SEO - you can actually pick up the phone and discuss your site with the developer."

(Phil Hoile - www.goldcoastlogin.com.au) SEO Gold Coast)

Monitoring your progress and your competitors' progress is important.
A multi-skilled SEO can do this efficiently as Google moves and adjusts its algorithms regularly. With about 400 factors that affect a site, it is often a case of finding the SEO that beats your competitors. To do this you need a range of strategies. The broader the skill set of your developer and their team, the better the strategies.
Included in these measures are metrics about site performance like loading speed, quality of coding and a kind of snobbery such as: "is this site from a good neighbourhood"?

"Hence your strategy starts before you buy your domain name. I am often referred to people who want their site to improve in Search Engines. More often than not the cheap (and sometimes not so cheap) sites lack quality planning to allow the site to reach its potential in Google."


The amateur sites can be a liability to a company and represent a lost opportunity as Google places heavy emphasis on the time it takes for a website to respond.

Gold Coast Login provides an Image Management System (CMS) that acts as a search engine promotion tool, allowing clients to actively improve their search engine ranking over time. This is achieved by allowing the creation of well-written and researched articles for the site that are read by search engines and can include links to different sections of the site and to other relevant quality sites.

Search engines offer free advertising because a business website is not charged for being displayed on the search engine, thus cutting another overhead in relation to advertising costs for the business. And an SEO can bypass the need for a business to purchase such things as 'Adwords'.
And quality search engines (especially Google) are democratic and consistent. Generally you have to earn a high ranking and then it comes down to how well your site is optimised for the search terms.

Phil's website tips:

1 Analyse the possible financial benefits of a Web Site that is Search Engine Optimised.

2 Can it reduce your sales staff and automate tasks?

3 Can it make your business grow and become more efficient?

4 How does it compare with conventional advertising?

SEO for Tradies

Finally ensure your web developer is not only available for discussions and consultations, but does not tie you down to ever escalating and unnecessary charges.

Tax Deductions

"Working from home saves cash, but there are ways to save even more."
(by Cathy Anderson)

Household

When working from home, your household running expenses -- gas, electricity, water -- can be claimed.

But there's a catch. As your office is also your home you need to calculate the percentage of space that you use for business - usually just your work room or study - by using a floor-plan of your home. If your workspace is 25 percent, then that's the amount of each bill and rent you can claim.

The rule is based on a specific area that is used for work. So you can't claim your bathroom or kitchen or the third bedroom even if no one is living in it.

Communications

For your home phone, mobile and internet, you'll need to apportion the amount you spend on personal versus business.
In terms of the home phone, if it's a business line you can claim 100 percent. If it's a home phone and it is used for both business and personal calls, you can claim a portion of that and it's based on a log or a 'guestimate'.
The same rules apply for your internet service as well as your mobile phone.

Travel

If you need to travel from your home office for work you can claim those expenses - including mileage, freeway tolls as well as car insurance.

If you travel less than 5000km during the year you are not required to keep receipts but must be able to provide a basis for this travel. If you travel greater than 5000km during the year then keep a logbook for three months and all your receipts for fuel, car washing, repairs, registration and insurance.

Office

You can claim depreciation on desks, chairs, computers, LCD screens, lamps, curtains, carpets and light fittings for the rooms from which you conduct business.
The cost of purchasing those items is either written off immediately depending on the amount or depreciated, and it's 100 percent because it's only used for work.
If you use that room for any other personal use, then you need to work out the percentages.


Phil Hoile - Gold Coast Login

Rent & Mortgage

You can claim your rent or mortgage payments as small business expenses, but it's complicated.
The ATO classifies working from home as either a home office or a place of business.

Anyone who is employed and then works at home after hours is classified as a home office, not a place of business. But if you are a contractor and you're not employed by anyone and your home office is your primary office then that can be your place of business.
If your office is the former, you cannot claim rent or your mortgage, but you can if you're the latter.
If you are renting, work out the percentage you can claim as per your utility bills above.
Many small business owners choose not to claim their mortgage payments as they may be liable for capital gains tax when they sell their home.

There are also several deductions that may surprise you, like a guard dog, but it's always best to check with your accountant first.

Pricing Power

A discussion about business overheads should include a section on your pricing. Pricing Power refers to the price elasticity of demand. If you raised your prices how much would demand fall off. A business with good Pricing Power could raise prices without a substantial drop off in sales.

How to build Pricing Power into your business

Keep prices in the conversation. Shift pricing where possible to "market forces". Communicate regularly with your clients (not just when billing). Generate value adds. It is the pereception of your value that is important. Refer The psychology of pricing services and products

Using Xero Accounting Software to Manage Expenses

Xero is a digital accounting package you can use to manage expenses.

The structure of the accounts are set to the various expense categories you may use in your tax-:

  • Subcontractors
  • Software Subscriptions
  • Office Expenses
  • Printing & Stationary
  • Telephone and Internet

By being able to automatically allocate expenses via your bank account by reconciling in Xero these expenses are then added as they occur and give instant snapshots of your expenses.

Conclusion

A wise semi-retired accountant once advised on the question of employing a person when the costs would throw overhead figures out. If they are good for your business do it.

Researched, Compiled, Composed, Edited and Written by Dr Steve Gration - February 2020
Sources and References


Megan Sullivan. June 24, 2019 https://quickbooks.intuit.com/r/expenses/12-tips-to-lower-your-overhead-costs/
https://ozcartecommerce.com/ecommerce/what-are-the-costs-of-starting-an-online-business
https://www.goldcoastlogin.com.au/gold-coast/news/NewsArticle.jsp?News_ID=130
https://www.goldcoastlogin.com.au/gold-coast/SEO/Search-Engine-Optimisation.html
https://www.goldcoastlogin.com.au/gold-coast/news/NewsArticle.jsp?News_ID=122
Cathy Anderson. https://www.huffingtonpost.com.au/entry/if-you-have-a-home-office-you-can-claim-these-expenses-on-tax_au_5cd41427e4b0ca9b7755de16 )
Ivanna Shepetyuk. https://merehead.com/blog/average-marketing-budget-different-business-areas/
Jack McKay ABC report 9th Nov 2023 Red tape, compliance and regulation costs double for Queensland businesses https://www.abc.net.au/news/2023-11-09/red-tape-costs-double-in-queensland/103080560

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