How to gain more control over your company’s finances? One way to do this is to look at your monthly costs and look for ways to reduce them. It is good to look at costs in terms of variable costs and fixed costs. It shows where the money is going and whether something could be given up. However, controlling costs does not only mean cutting costs. The main goal is to learn how to make more profit without compromising on quality.
Variable cost control
Variable costs are direct costs related to the production of a product or the provision of a service that increase with sales revenue. The examples of such costs are raw material costs, production costs, transport and labour costs incurred in producing the product or providing the service, etc. Although variable costs are inevitable, most companies will find ways to reduce them with closer look.
How to do it?
Start by asking your accountant for a statement of variable costs for the previous 12 months and see what variable costs are incurred in the course of your business activities. Deal with higher costs first and ignore 20% lower ones.
NB! Keep in mind that variable costs are the ones on which the quality of your product-service depends the most. Never reduce costs at the expense of the quality of your products and services.
The production plant strictly controls material consumption and stock residues
The production company has a large part of the costs related to the cost of materials. Thus, the first way to increase profitability is to buy the material more efficiently.
To do this, review your supplier base regularly and find out if you can get the same raw material cheaper or more efficiently elsewhere.
Guiding questions to control material costs:
- Is it the best price from this supplier?
- Would you get a better price from other suppliers without compromising on quality?
- Could you buy smaller or more frequent batches for the same price? Also, take the transport costs and the risk of delays into account.
- Would you get a better price if you bought a larger quantity at once? Maybe you can cooperate with someone? Also, consider the cost of maintaining the warehouse.
The service company strictly controls labour costs
The main variable cost of a service company is labour costs, which can easily start eating the company’s profits. Therefore, control labour costs carefully and take into account all other costs directly related to people, such as tools, training, etc.
- Is the work done by employees with the lowest possible qualifications and remuneration, but still of the required quality? There is no point in paying a highly qualified expert if the work can also be done with the help of a specialist with simpler knowledge and experience, whose salary cost can be significantly lower.
- What part of the work could be automated, is it financially sound? Take into account both initial implementation costs and maintenance costs – as well as future salary increase for employees.
Set up quality control for products and services
This applies to everyone, both manufacturing companies and service companies. The aim of quality control is to ensure the uniform quality of products and services, reduce scrap and make work more flexible. To do this, use the principles of quality management – prepare work instructions, find errors and work on their continuous improvement.
Use purchase orders if possible
This recommendation is for larger companies where overview and cost control tend to dissipate. Purchase orders are used in Estonia mainly in wholesale companies, less often in services. If the use of purchase orders can be integrated into an existing invoice management or financial program, it is a very effective way to control costs. In addition to convenient ordering, it also helps to reduce the time it takes to confirm the purchase invoice inside the house.
Check the conformity of the products and services received
When checking the conformity of products and services, you need to check two aspects:
- Does the product / service actually received correspond (in quantity and quality) to the order?
- Does the price and quantity indicated on the purchase invoice correspond to the goods / services actually received? Are there any unexpected additional costs on the purchase invoice?
In a larger company where responsibility is scattered, the risk of such mistakes is quite high.
Fixed cost control
Fixed costs are the costs that do not depend on the volume of products and services. If you have less sales in some month, you still have to pay fixed costs. Fixed costs include, for example, mobile costs, electricity, accounting services, office rent and interest costs. To get your costs under control, the same recommendation applies here – start by asking your accountant for a statement of expenses for the previous 12 months. Then you deal with the higher costs first and initially ignore the 20% lower ones. But at least once a year, review all costs.
Once you have identified the important cost items, explore the market opportunities. Try trading below the price, ask for a discount for earlier payment. Try to agree with other buyers to get a volume discount. Also look for alternatives, you may need to change suppliers. Also, make sure that you do not become very dependent on one supplier, it can cause problems if something happens to it.
Furthermore, the fixed expenditure budget should never be drawn up by taking last year’s expenditure and multiplying it by the inflation rate. All major costs should be reviewed annually and their necessity carefully considered.
Control higher costs
- Room rental – is the size of the premises optimal?
- Is the rent paid corresponding to the market price?
- Perhaps you could take a subtenant or change premises?
- Would it be possible to trade for a lower price?
- Find out if you can reduce electricity consumption
- Are you not paying for the services you no longer use (e.g. landline)?
The costs related to the bank loan can also be quite significant.
- Have you reviewed your sources of funding?
- Do you have them at the best possible terms?
- Do you use loans and overdrafts effectively?
Consider outsourcing instead of hiring staff
The general principle is that work that is directly related to sales, customer service and core work should be done in-house and by your employees. It may be a little more expensive, but it is definitely easier to manage in terms of quality.
Other work (e.g. computer maintenance, marketing, law, accounting, personnel work, etc.) could be outsourced as long as it is financially reasonable, i.e. as long as the cost to the employee is higher than the outsourcing of the service. When considering alternatives, also take into account all indirect costs related to the employee – training, holidays, replacement needs, work equipment, job creation, work-related office rent and other office costs, occupational health costs, summer day expenses, direct superior’s time, etc.
Control over the contracts with suppliers
Yes, it is annoying, but unfortunately necessary. The initial price may be good, but there may be a number of unpleasant attachments in small print (e.g. related period, minimum purchase obligation, short payment period, etc.). If you do not have time for this, use the help of a lawyer.
Trade with the longest possible payment terms from all suppliers. If your business is still small, you do not have much say and you have to accept what is offered. However, as you grow and purchase volumes increase, you will have opportunities to trade. The credit offered by suppliers is almost the only free money you can use.
Also: Do not pay before the due date. And do not pay until delivery issues are resolved.
Use state subsidies and free training
If you are a start-up, take advantage of all state subsidies, training, incubators, etc. Many subsidies are offered to start-ups, it is already much more difficult for an active entrepreneur to get them. So keep your personal inventory for a later stage. Of course, also assess whether the training offered is good enough to spend your time and whether the support provided does not involve an unreasonably high reporting obligation.
Take advantage of tax benefits
With regard to taxes, it is necessary to know which costs are taxed and which costs the company can legitimately incur tax-free (for example, home office, business trips, training, car compensation). Here, it is definitely worth consulting a professional accountant and not trusting entrepreneurs who boast of how they put their personal expenses into the company.
Convert fixed cost to variable cost or vice versa
Convert fixed cost to variable cost to create more flexibility. It will also save you cash flow. For example, you pay a salesperson based on sales or an accountant based on sales, not their hourly rate.
Turning a variable cost into a fixed cost only makes sense if the cost is truly valuable. And only if it brings you significant savings. Keep in mind that if the economy is going to get worse (and the economy is cyclical), the companies with the lowest possible fixed costs will have an advantage.
Cost control helps you understand where the money is going. Work constantly in the manufacturing company to reduce inventory of materials and finished products that hold your money. Keep the labour costs of the main employees in the service company under control. Regularly keep an eye on fixed costs and cut back. Remove tasks and activities that do not add value to your business or customer. Consider outsourcing instead of hiring employees. Remember, every euro saved is reflected in profits. Thus, cost control directly helps increase your company’s profits.