If you have ever tried your hands on a business and it failed and you never understood why that happened, as you did your best and even your sales were actually growing, or you are thinking of getting into business, then today’s article is for you, therefore take the next couple of minutes to read this publication because we have some pointers as to why that might have happened or how to ensure that you do not fail in your next big venture.

After careful analysis of most of the SMEs and Startup that have consulted us for accountancy services, we have concluded that some of the businesses do not fail because they are not generating revenue, in all honesty, some of these businesses are actually growing at such an incredible rate and the reason as to why they fail or are unable to maintain their growth and stay in the market has nothing to with the revenue generation at all.

The main reason why most of these are businesses close is because of lack of proper record keeping which then by default means that the cost management of generating the great income is not monitored, unmonitored cost a fatal blow to any business, whether it’s growing or not.

In today’s article, we will discuss the various classes of cost and the key ones to look out for to ensure that they are kept on track, then on our next publication which will be on 3rd February we will discuss the different ratios that you also need to look out for and the acceptable ranges associated with each, so ensure you have subscribed to our newsletter, therefore, you will not miss anything.

Without any further ado let’s dive into today’s lesson;

Cost classification in most cases is dependent on the industry in which the business is in, however, we do have the standard ones that run across the board and those are the ones that shall look into today:

  1. Fixed or Indirect Costs – these cost that are not dependent on the whether the business brings in revenue or not they are bound to be incurred, one of the major benefit of this category of costs is that they are know the value with certainty and can therefore be planned for during the budget process, the probability of this costs changing without a notification is very low as well, this cost include expenses like rent, salary, utility bills and the likes, depending with the company’s finance policy during the budget process asset accusation can also be captured here (remember an asset is anything that helps you generate an income, we shall discuss assets in detail in our 17th February publication), the finance policy should also offer guidance on what ratio of this cost in comparison to revenue generated is allowed and which shred hold should not be surpassed, this will ensure that the business revenue is not all lost in covering cost and hence the business is always in survival mode instead of moving forward to thriving.
  2. Variable or Direct Costs – as you can already tell from the name this is directly opposite of the fixed costs, these ones are dependent on the revenue generated, what this means is that when the revenue increases the variable cost are bound to increase in a certain proportion, remember fixed cost don’t change with revenue change, depending again on the industry the business is in, this costs vary, let’s take an example with the manufacturing industry, variables cost would be the materials needed in the production of the final product, the more the products produced then the more raw materials required, as much as this is the case the correlation of the two should not be left unchecked as that will leave room for unnecessary wastage and eventually this will cripple the business, again the finance policy should clearly offer guidance on what percentage of these costs is acceptable based on the specific industry that the business is operating on, least all the revenue gets swallowed here, which is the unfortunate case for some of the failing businesses.
  3. Operating Costs – in most cases these categories of costs is taken as a consolidation of the earlier two costs and that is the case, however is it important to understand the known definition of these cost, these are the costs that are involved in the day running of the business, they can not however be linked into the generation of the revenue directly but they facilitate the revenue generation, a very good example of these costs are the marketing cost, it is almost not possible to have a metric that can link x amount spent on marketing to the y amount of revenue at a specific time, this doesn’t mean however that this cost should be left unchecked, both the budget allocation and the finance policy should offer guidance on the acceptable ceiling amount that’s allowed to be spent on each sub-class in this category and as a matter of fact each cost should have a well reconciled report of what it achieved where possible (we say where possible because finance costs fall in this category), this is very vital for a new business more than it is for an established one because it sets the pace of how the business will run once it takes off.

When a business is starting in most cases the owners are so focused on closing sales or revenue that in most cases they operate at “whatever the cost” concept or as they say “the end justifies the means” and maybe this can be allowed but we strongly believe this can only work if the end goal is not a long-term wish or not a long-term enterprise growth.

Because if you work under the above assumption then what will happen in most cases is, you will always be making more revenue but in actual sense, you’re not doing any business because you are making less than you are spending, and you will never know how much you are spending unless you account for every coin that is spent, doesn’t matter which class it is in account for it, note it down somewhere, the to help you know how you are spending, always try and answer these questions,

  1. “Was that a necessary cost?”
  2. “What was the benefit of that cost?”
  3. “Does the benefit out way the cost?”

We’ve noted that some businesses also lose on some things because they take the concept of “cheap is expensive” too lightly in some instances.

What we mean here is when answering the number (iii) question above have a deep analysis and understand that some investments are worth making instead of keeping on doing preventative measures why not just cure the issue once and for all, it may cost a little more but in the long haul it is actually cheap, again stay tuned for the 3rd February publication on what constitutes an asset other what is barely known as the accounting classification of assets.

Take-Home: Revenue is not all that sustains and grows a business cost management is in most cases is the oxygen that keeps the project alive and ensures its longevity.

MA Financial Services Consultants

Leave a Comment

Your email address will not be published. Required fields are marked *