General & Overhead Expenses | Edmonton Bookkeeping
Hi and welcome to another edition of ask spurl CPA. Today we’re talking about general and overhead expenses. I have coal with me here again today. Cool. Thanks for coming. He excited for another tax.
Yeah. Starting to starting to get excited. It’s picking up here. So
hey, that’s like our playoffs, right? We’ve got to be ready. So, uh, Michael Gerber has a good quote on this subject, author of the e myth. The fatal assumption is if you understand the technical work of a business is that you understand the business that does that technical work. And let’s look at a statistic when it comes to business owners understanding general overhead expenses. You know, the makers of quickbooks into it, they did a survey, financial literacy survey for business owners and um, the questions that they ask them were basic financial literacy questions and the role of the balance sheet, accruals, cashflow questions. Edmonton Bookkeeping with your overhead is important. Um, and they found that 82% of the respondents got a score of 70% or less on the basic business financial literacy questions. So, and then it falls into our story here is we have business owners and they don’t really understand how much they need to cover their overhead or certainly how much revenue they could generate to cover their overhead.
And often they just don’t understand, you know, how much they need to make in order to keep the lights on, so to speak. So cold. What are the questions you think these business owners should be asking when it comes to general and overhead expenses? Well, the first one would be what? Our general and overhead expenses. So general and overhead expenses are the expenses that are not direct costs of sales. So the general overhead expenses, you know, they’re not the direct cost of the supplies and the contractors who only come out and work because there’s revenue. Um, if you’re a physician, it’s that associate physician. There are direct costs of sales, you know, you pay them 60 or 70 or 40% of revenue. Um, those are direct expenses, but the general expenses, that’s everything else in the business. So the expenses that are not directly related to the generation of the revenue, they’re not, they’re not, they’re not directly tied and they generally don’t vary, um, as directly as the other overhead expenses.
Um, what are examples of direct costs not included in overhead and general expenses?
So the direct costs, I again, those direct costs are really the, we’re talking about, you know, the, the contractors, the supplies, um, that are, uh, and the, and the direct cost of labor. Generally. Those are the three things that are in the, the direct costs. So we’re looking at the cost of supplies, the contractors and any self work, the direct labor costs. Those are generally, yet, I, I mean that whether we’re a contractor or medical professional is the same thing. So we have, you know, an associate doctor gets a percentage of revenue or if we’re construction guide, we’ve got a subcontractor that directly relates to the, the project. Whereas the overhead expenses, you know, there are things like the, the rent in the administration staff and the costs for the office supplies and these things don’t directly relate to the, um, to the revenue itself. Okay.
Uh, why do you recommend sorting your expenses in numerically descending order?
Yeah. So were you starting, you can imagine your income statement. We have revenue at the top and we have direct costs of sales. And after that we have our, our gross margin and then we started getting into the general overhead expenses. And I recommend always sorting these general an overhead expenses in numerically descending order. So the biggest at the top and the smallest at the bottom. And that will be different than people who recommend, you know, sorting and alphabetically. And I guess I understand, uh, the alphabetically for a, for an organization, uh, point of view, but really I like to sort them in numerically descending order because we will want the most significant items that talk, you know, we’re not generally going to make a big difference in the business if we’re able to, you know, change the interest and bank charges or the, um, you know, our small office supplies, that’s not really going to make the big difference in the business. Edmonton Bookkeeping can be a game changer with your overhead. Um, but it’s the big items, you know, rate at the top. Those are the ones we want to spend our time that, so we rank expenses and numerically descending order. And as business owner, you know, you’re almost, you know, drawing a line in this, the things above the midpoint, if we can spend our time on to make a difference on they’re gonna make a bigger difference on the net income at the bottom.
Where do admin wages and rent normally rank and overhead and expenses.
So normally when we’re looking at the general and overhead expenses a more so organizations, the admin wages and the rent or the cost of the space, the interest of longterm debt, maybe, um, these are the most significant items. So, you know, we’re, we’re, we’re looking at the order of significance in numerically descending orders. So normally we’re going to see the administrative wages and the rent, the cost of the space of that businesses in there. Normally one and two in most businesses. And these are the things that, you know, are really making a difference in terms of the profitability. Um, so they’re normally at the top of the list. And if we want to make a difference as a business owner and you know, are we in the right space and do we have the right amount of administration staff? So this is a staff that’s not directly related on a billable project or revenue generating project, if you will. Um, you know, how much does that cost us
compared to direct costs? Kind of be more difficult to reduce overhead.
Yeah. It really can be more difficult to reduce the overhead expenses because a lot of the overhead expenses and they’re almost fixed in nature. You know, we have a rant and say we’re locked into rent $4,000 a month. It’s not like a, a material where, you know, we can, you know, source out a cheaper material. It’s either we’re in that space over, not in that space. And often we’re locked into a lease for, you know, extended period of time in that space. And it’s the same thing with the administrative staff. It can be difficult to reduce direct costs but Edmonton Bookkeeping can help you with that. Um, do you know, we have a staff and often the decision is, you know, can we, do we keep the staff or do we lay off the staff? Um, uh, the, that’s often the choice because sometimes, you know, going to a, a staff and say, Hey, I’m going to roll back your wages, you know, 3% or 5%. It does, it doesn’t go over that well. Right. And same with cutting hours and you’ll yet, sometimes there’s the opportunity and sometimes that is the move, but it’s more difficult. It’s a more difficult conversation and sometimes it’s an impossible conversation. So you know, you know, changing those, those overhead and variable costs can be difficult. Often it’s either keeping or eliminating the line.
Why do you normally expect interest and bank charges to increase with revenue? So these are the one, you know, that’s one example of all of the overhead expense that that’ll vary with the revenue. Um, you know, a lot of people in most businesses are, are collecting some or all of their fees from credit card, debit card machines. And especially on the credit card, you know what we’re expecting, you know, two or 3% on a charge from the credit card processor to ring it through. So if you see interest in bank charges jump up. Well that might actually be a good thing because that means we sold more money. Uh, we sold more, more items this month. So the, it costs us more money to process the transactions. So generally in most businesses, because we’re relying on credit card machines, the process and we get a fee every time we were agreeing a dollar through. If we bring more dollars in, we can expect those interests in bank charges stick, go up if revenues going up.
Does knowing your overhead expenses helped you understand your breakeven point? Yeah. So it is extremely important and understanding that, so the exercise of separating those direct costs of sales and those overhead costs of sales and these overhead costs of sales are almost like these are the expenses that are going to occur. You know, whether we do any revenue or not, we’re going to have to pay that. The administrator and the, the receptionist in the office, we’re going to have to pay the rent. You know, we have a certain amount of office supplies that were, were using every month. We have to pay our insurance premium every month. Um, you know, we might probably have a couple of licenses and dues that happen every month. Find a great Edmonton Bookkeeping to help you with your overhead. Um, you know, software, juice, things like that. Um, yeah, it’s, they’re almost like the fixed costs of the business. And so if we understand what those fixed costs are, we can now work backwards.
And let’s say we have a business then it has 20,000 worth of overhead expenses every month. And then we ended up having that, you know, let’s say this business has a 25% margin for a, so for every $4 that it brings in revenue, he gets to keep a dollar after it pays the contractors and the supplies and the direct costs of the Labor. So every $4 or brings in, it’s a dollar. And so then we have this business that has $20,000 in overhead expenses. And if we know that the margin on the, on the, uh, product or service that it’s selling is 25%. So every $4 coming in, there’s $1 left over after paying the direct costs. Now we know we can take that overhead expense multiplied by that four. And this business needs to bring in $80,000 of revenue each and every month to keep the lights on to break even.
That becomes the breakeven point. So we can work backwards if we know the total of the overhead expenses each and every month or a rough estimate of the total. And we know the margin on the products, you know, we can take that overhead expense and either times by the multiple or divide by the, the, the percentage of the profit margin and we get our break even point in terms of revenue, which is an extremely powerful number. And a lot of business owners, they don’t understand it. And a lot of times I think that yeah, I can, I can add another $5,000, uh, to my overhead and I got to sell another 5,000 is like, no, you have to sell. You can’t just add, you know, another, uh, bring on another staff member and selling on the $5,000. Because if you sell $5,000, you know, you have the materials and the contractors and the, the direct cost of labor, you’re not going to keep that $5,000.
Um, so we have to keep in mind that, you know, bringing on overhead expenses for every dollar, we bring out an overhead expenses in most businesses. You know, we’re talking about bringing on the next year four, five, $6 in revenue to pay for that overhead expense when your income is breaking even. Could you still have a negative cash flow? Yeah, you can. So we’ve gotta be careful when we talk about break even because that’s break even for me income level. So we get to that same business example and they have $80,000 worth of revenue and they have 25% margin and they make $20,000 gross margin off of that. And then they have the $20,000 overhead expense and we’re going to have the income from operations at zero, but they could also have a loan payment. Um, so they have income from operations at zero. So the the revenue and the expenses are totaling zero, but then we have repayment of the principle portion of alone which could put them into a negative cash flow situation.
So often though the, there’s repayments of debt or payments to shareholders that can, that can make that, that break even point, it’s still going to be negative cash flow at that point. How can admin staff on revenue producing activities sometimes best? Yeah. So I guess if you have a hard choice and you have this, this overhead and it’s too high and a lot of times we’re looking at, you know, when we look at we’re, we’re sorting that income statement in numerically descending order. So we’re looking at what can we actually do? We’ve got to get this back in line. And you know, when we started looking at ranch, can we get out of rent? You were locked into a lease. That’s a, that’s a longterm goal. Usually get out of rent or downsides that renter or do something there or you know, bringing in enough revenue to cover that rent.
But in the interim, a lot of times what can be done is, you know, we talked about, you know, you lay off a staff member, can you roll back some way? You just can, you cut their hours. Those are all real difficult things to do, but sometimes you can just re task that staff member onto the billable side. So what is that, you know, billable side of the business. Can we get them producing revenue generating activities? Uh, then we don’t have to lay them off. You know, we don’t enroll back wages but been just slash hours. But if we can just get them on the revenue producing activities, it might be a stretch for them and it might be a little more difficult for them. But sometimes when it’s pushes from desk, Hey, uh, you’re a valued member of this team and, uh, we’d like to keep you on, but we can’t keep you on an overhead capacity.
We have to, you know, make sure it’s a revenue generating capacity. Sometimes that, that goes over a lot better then then the pink, the proverbial pink slip. So what does it mean to say you have a revenue problem, not an expense problem. Yeah. So there can be the doom loop of business owners and they have these general expenses and they somehow think that if they slash and slash and slash slash that somehow they’re going to get to this magical point where they make money. When you start looking at that margins of the businesses, you know, altogether. And it just, it doesn’t even seem plausible that they could, you know, if they thought if they slash all of their overhead expenses in half, you know, can you imagine, you know how I’m going to pay half of my phone bill and half of my utility bill and half of a administrator and half of my lease, but they have this, you know, uh, you know, slash and burn mentality that if they can get there, the suddenly make money.
But even if they were able to accomplish that, the business is still not viable. It is a revenue problem. They just simply need to do twice as much revenue in order to get this thing rolling. So something that you really have to look at that, and this is my time really trying to incrementally move down those general an overhead expenses. Or do I need to be taking your massive action in order to boost that top line revenue or maybe change the margins, the profit margins on the revenue that I’m doing. Edmonton Bookkeeping will help you and your business to grow. Um, so a lot of times it, you know, it’s, it’s a revenue problem or it’s a margin problem, not an overhead expense item. You know, most of the overhead expenses there, they’re not gonna make the difference whether you win or lose. They might make the difference by how much you win or how badly you lose, but they’re probably not the difference between winning and losing. Uh, you know, they’re just a couple of extra percentage points on the inevitable outcome. So I think that’s what we have here on this subject. Thanks so much again for tuning in and we look forward to bringing you another episode of Askpat [inaudible] CPA, please hit the like and subscribe button so we can deliver you tips to help you beat the odds of business. Thanks very much. Thanks guys.