How to Reduce Operating Costs and Expenses

Operating costs are, put simply, the costs involved with running your business. It’s the sum total of all the things you pay in order to keep a business going and generating revenue.

How to calculate operating costs

Subtracting your operating costs from your total sales will give you your operating profit or operating income. But in order to get to this point, you must know how to calculate your operating costs. Total operating costs can be worked out with one simple equation: Cost of goods sold (also known as COGS) + operating expenses (also known as OPEX). 

COGS covers all costs associated with creating the goods you sell, including the direct costs of materials and labor, any rent needed for production facilities, costs associated with equipment (such as repair), wages and other benefits for production workers, and utility costs and required taxes for production facilities. 

But what exactly are operating expenses (OPEX) – and aren’t they the same thing as operating costs? The answer to the second of these questions is a hard no. As to the first…

What are operating expenses?

Operating expenses refers to the ongoing expenses that a business will incur as it runs normal operations. They refer to the maintenance and administrative costs of running the business on a day-to-day basis. OPEX is shown on the balance sheet of a company as a subcategory of their own under liabilities.

Not to be confused with capital expenses (the valuable items purchased by a business in order to create the goods or services that it provides), operating expenses broadly cover expenses related to compensation, expenses related to the workplace, and expenses related to sales and marketing. 

Some examples (note: not a comprehensive operating expenses list) include:

• Employee salaries
• Commissions and bonuses
• Contributions to retirement plans
• Office supplies
• Utilities (gas, electric, internet, etc.) for running your workplace
• Workplace rent or leasing costs
• Workplace maintenance and property management
• Advertising and marketing costs
• Sales materials costs
• Travel and entertainment budget

Operating cost ratio

The operating ratio for a company compares its OPEX to net sales. It’s a way of determining whether a company’s management is able to keep costs suitably low while still generating the expected sales or revenue. As such, it’s a good indicator of a company’s financial health, and can help you see where you rank within your given industry. In the simplest terms: The lower the ratio, the more efficient your business.

Reducing operating costs: Steps you can take

The trite answer for how to reduce operating costs and expenses is to spend less. If you’re spending a lot on payroll, then reducing salaries or headcount will reduce that figure. But saying “spend less” isn’t necessarily a helpful suggestion. Few businesses actively seek to spend more money than they need to. If a company is therefore spending a lot on operating costs and expenses, it’s most likely because it feels that it has to do so in order to compete in the market that it’s operating in.

In some cases, this might be true. Nonetheless, there are steps that organizations can take – or areas to regularly re-evaluate – to see if there’s fat that can be trimmed without damaging a business’ ability to function efficiently. 

Rethink your marketing spend

How much you need to spend on marketing depends on multiple factors. Are you a newcomer or an established giant? Are you in an established business or trying to carve out an entirely new market niche? The exact percentage of your operating costs that you spend on marketing efforts will vary based on all of these factors and more.

But you should be able to reduce these, either by finding out free or cheaper ways to market your goods and services, or by carrying out analysis to find out what your most effective spend is – and eliminating other expensive yet ineffective modes of marketing.

Reconsider travel budgets

There was a time, not all that long ago, in which almost all long-distance business had to be done in person, which necessitated travel and its associated expenses. After a couple of years of COVID, the world is far more receptive to virtual meetings – while the scope of what can be accomplished virtually has greatly increased. Not only does this cut down on the costs associated with travel, whether that’s petrol or air miles or overnight hotel stays, but it’s also better for the environment and, when it comes to cutting down travel time, probably for productivity, too.

Identify inefficiencies (and do something about it)

As a business, you should constantly be looking for inefficiencies and ways to solve them. Those inefficiencies are almost certainly costing you money: perhaps with overly laborious processes that could be streamlined to reduce employee time, maybe with a reliance on expensive contract employees instead of official staff members, or with pricey subscriptions for services you never use.

If you run your business efficiently, you’ll have carried out a cost-benefit analysis for each of these decisions upon taking them to begin with. However, circumstances can change. It may be, for instance, that the subscription software you invested in was used for one particular job that’s no longer required, but that no one has thought to cancel it since that particular employee left the company. Carrying out regular analysis of your repeat expenditures can help identify these kinds of efficiencies for you to remedy.

Best of all, because these typically relate to redundant expenditure, you can cut costs without in any way impacting service as usual. You may even find ways to improve it – perhaps by finding technological solutions to automate some of the inefficiencies that you have, such as with RPA (Robotic Process Automation) bots to carry out certain high volume repetitive tasks.

Consider remote work

The earlier example of Zoom meetings to replace certain travel expenses is one illustration of how remote work can help cut costs. But it can go much further than this. Today, the WFH (work from home) movement is in full swing, and lots of employees value this kind of flexibility and foresight in bosses and potential workplaces. Remote work isn’t just about making your employees happier or attracting new people to work for you, however.

By not having to worry about having all of your employees on site eight hours (or more) per day, five days a week, you can reconsider costs like expensive office space and the accompanying maintenance expenses. Since running a workplace can be a big expense for businesses (while it’s likely to be in the single digits or low double digits of revenue, that’s still a considerable output), finding ways to lower that can be a game-changer. Even a hybrid working arrangement in which employees work several days a week in the office can, properly staggered, mean reducing the number of desks and therefore square footage that you need.

Consider a four-day work week

For many bosses, this might seem a scarily modern phenomenon. After all, if you’re competing against other businesses working five days, the idea of trying to accomplish as much (or more) in one fewer day per week sounds crazy. For one thing, a four-day week doesn’t necessarily mean less work: it could mean getting employees to work four 10-hour days rather than five eight-hour ones. Productivity may also increase due to the good will resulting from such a gesture.

From a financial perspective, the benefits are also clear: Less burnout can mean lower staff turnover, thereby reducing the costs associated with finding, hiring and training new starters. It can also mean reducing other costs associated with running a business for five days per week. You’ll have to ensure that this arrangement works effectively, and that customers are happy with the new setup, but it could prove to be a key step in the right direction – not least when it comes to lowering your costs.

Use an Automated Spend Management Platform

Most businesses aren’t as efficient as they’d like to be when it comes to operating costs and expenses. An automated spend management platform can help to control your expenditure to ensure you’re not parting with more money than you need to.

Mesh is a complete corporate payment solution that offers full visibility, control, and insights into every expense – all in one place.

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