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Small Business Management Expense Control

Forecasting, Budgeting, General Ledger and Gross Profit Analysis

Nov 15, 2009 James Clausen

Business expense control is a key element to maintaining profitability. Learn how to control expenses through forecasting, budgeting and general ledger management.

There are two basic ingredients to running a profitable business, income and expense. The entrepreneur has much less control over income, yet there’s generally more emphasis geared towards increasing income. Controlling expenses is equally important as increasing income, as far as profitability’s concerned. After all the basic equation for profit (or loss) is income minus expenses.

Controlling Operating and Fixed Expense

There are two categories of expenses generally associated with a business, fixed and operating expense. Fixed expenses remain somewhat constant overtime. Since they don’t fluctuate, the focus of this article will be on operating expense (aka variable expense). Operating costs generally fluctuate with operating activities. In a sales environment, they increase as sales activities increase. In a production environment they change along with an increase or decrease in production.

Examples of Operating Expense

Sales commission
Hourly wages
Advertising
Promotions
Consulting fees
Training
Freight
Equipment maintenance
Vehicle maintenance

Operating Expense as a Percent of Gross Profit

Since operating costs are directly related to operating activities, they should be analyzed as a percentage of gross profit. The equation for the percentage is to divide gross profit into each individual operating expense. At the end of each month, calculate the percentage of operating expense to gross profit from the income statement. Once the percentage is calculated, they can be compared to historical data and budget figures.

Expense Control Budget and Forecast

In order to create a budget, the forecast must be created first. The budget is a tool that helps control operating expense. The forecast is basically a prediction of future income. Once the forecast is created, the historical percentage of operating expense to gross profit is used to create the budget. The calculation for each individual expense account should be used for creation of the budget.

Once the budget is created, expenses should be monitored so that expenditures are kept within the budgetary limits. If any specific areas of expenditures are exceeded, further analysis to determine the root cause should be undertaken. For further analysis of root cause, look at the general ledger expense accounts.

General Ledger Analysis of Expense Accounts

If an operating expense exceeds the budgetary limits, researching the general ledger for the offending expense account should provide the root cause. The majority of the postings to an expense general ledger account comes from the purchase journal. Analyze the purchase journal and look for postings out of the ordinary. Also look for dollar amounts that seem unusually high. Often the root cause will stick out like a sore thumb.

In summary, it’s best to concentrate on controlling operating expense. A budget should be created and expenses should be contained within the limits of the budget. If expenditures exceed the budgetary limits, further analysis should be conducted to determine the root cause. Following these simple guidelines should help to increase the profitability of the company.

The copyright of the article Small Business Management Expense Control in Business Management is owned by James Clausen. Permission to republish Small Business Management Expense Control in print or online must be granted by the author in writing.

Small Business Management Expense Control