If your revenue was impacted by COVID-19 and its ripple effect – and who wasn’t – you know it’s not going away anytime soon. How do you avoid a 2021 that looks too much like 2020 on your income statement? Maybe you can get better control of your costs – at least those you can control while still filling orders. Is there a quick way to identify where you should look?
Unsurprisingly, there is. First, though, let’s define four key terms that folks toss around, sometimes without fully understanding what they mean, thus the frequent label “buzzwords.” Here are those terms, in English:
Fixed costs vs. Variable costs
First, fixed costs. Few costs are fixed, but those that are can be large and are generally essential. Your office rent is one of them. Your full time employee salaries and benefits are another (except for part-time or hourly or contract workers). Utilities, taxes, depreciation. You’re going to absorb those costs every month, even if you don’t sell a dollar’s worth of product. As one client put it, “lights on, doors open (LODO).”
Variable costs are only those costs that increase in direct relation to sales volume. The cost of raw materials and hands-on (direct) labor, sales commissions, product shipping costs, and the like. So, if you had no sales and didn’t build product inventory in anticipation of sales, you had no variable costs; you may have a lot of idle labor costs, but that brings us to the next set of buzzwords.
Controllable vs. Uncontrollable costs
Controllable costs include underutilized, indirect and administrative labor, the marketing budget, the lunchroom snacks, travel and entertainment expenses, office supplies, employee bonuses, outside professional services, maintenance & repairs, telephone and internet services, and so on. Not necessarily totally removable, but manageable by controlling the circumstances around their use. There are lots more of these than you might think, although they often get considered as “essential to running the business.” Not always so.
Uncontrollable costs are the costs you’re really stuck with today. The aforementioned rent, most utility costs, business insurance and income taxes, lease payments, depreciation, etc. (One mistake cost managers often make is assigning these costs to a department manager, and holding that manager accountable for them. If they can’t control them, we shouldn’t set them up for failure.)
Now the management part. Have your controller or senior staff accountant go down their Chart of Accounts and identify every expense account as F or V and also as C or U. Your job then is to look at every account with an “F” and a “C” next to it, and decide how you might reduce it without impacting your ability to deliver on your sales commitments. Brainstorming first, decisions later.
Some expert once told me that all costs are uncontrollable in the short run, but all costs are controllable in the long run. Even fixed costs can be managed in the long run, but are typically uncontrollable in the short run. The key is to think outside the box and decide that what you’ve been doing has worked in the past but isn’t the only way to do it in today’s world. That’s when the magic happens.