Financial Data
Updated 29 Sep 2020

The secret to managing hidden expenses

How do you go about managing these hidden (and unexpected) costs?

Ed Hatton, Entrepreneur, 26 April 2016  Share  0 comments  Print

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A potential customer walks away without buying after a bad experience with one of your employees. Your deliveryman cannot find a delivery address, so he returns with the customer’s order. Inventory at the back of the storeroom lies unused and unsaleable. A manufactured item fails a quality check and has to be remade.

Clerks spend time reconstructing lost information. These and other failures cost your company a lot of money, and yet the cost is almost invisible. These are the intangible costs for which you do not get invoices, yet they are often a substantial part of the total costs of running a business.

Intangible costs include overstaffing, overtime, overstocking, excessive transport costs, scrapped material, excessive rent, and loss of profit from lost customers and lost sales that should have been made. Moreover, few raise alarms or are subject to intensive cost-cutting drives, simply because unlike direct costs, nothing highlights their existence.

Related: The statement of cash flows explained

To illustrate this point, imagine a scene where every lost sale generated an invoice for the loss of profit. There would be a predictable response to improve competitiveness and service, but the lack of visibility of lost sales makes this response unlikely.

The loss of profit is as real as the cost of wasted stationery, but seldom gets as much attention.

Tracking intangible costs

Anything affecting customer satisfaction may mean lost customers, lost sales and fewer referrals. Examples are missed delivery dates and sales lost because you have run out of stock. Do you know how many customers have stopped buying in the last year, and why? Do you do regular customer satisfaction surveys?

Second on the list is rework, and not just of manufactured items. Repairs that were not made properly the first time and have to be redone, or time lost finding or recreating vital information that should have been readily available all have a real effect on a business. How often do you fix errors made because staff are unfamiliar with procedures? Doing things over is costly and demoralising.

Direct financial losses may also be hidden. For example, delayed payments by customers because of queries with the paperwork will incur interest costs.

You may have discovered stock items lying unused while new orders are placed for the same items, or find that the wrong items have been ordered and never returned, but these costs are buried in material purchases.

Machinery or vehicle breakdowns due to maintenance neglect can be expensive, but are included in service and maintenance costs. Abuse of sick leave may generate unnecessary overtime. These significant costs may go unnoticed, unlike an unexpected direct cost where the payment request will usually be queried.

Measure and reduce

When you start tracking these issues, you may find that your staff do not regard them as important. Create a culture of lean operation, where any waste of material, time, space or opportunity is addressed. To do so, you have to build an organisation where it is acceptable to make a mistake and learn from it, so that people are not motivated to hide their errors.

Start with some simple measures: Watch for obsolete stock and stock shrinkage like a hawk. Track rework of all types, including deliveries sent twice, re-invoicing and manufacturing and repairs needing to be redone.

Related: Avoid the cash flow crunch

Analyse the causes rather than allocating blame; you may need to do more training or supply better materials or systems. Institute rigid maintenance schedules to reduce breakdowns. Track lost sales and encourage customers to report bad service.

Finally, avoid loss of institutional knowledge. If you retrench the long-serving clerk or storeman, the savings could be wiped out by costs such as making wrong parts or upsetting established customer routines.

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About the author

Ed Hatton, Entrepreneur

Ed Hatton is the owner of The Marketing Director and has consulted to and mentored SMBs in strategy, marketing and sales for almost 20 years. He co-authored an entrepreneurship textbook and is passionate about helping entrepreneurs to succeed.

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