Overhead is one of the four most critical financial investments a landscape manager makes to drive revenue and net income. But how do you know what is the right amount of overhead for your business?
In simplest terms, the right amount of overhead for any given level of revenue is easy to calculate, and it is directly related to net income. This means that for every dollar we add to overhead spending, we must return a minimum number of dollars in revenue. This productivity or ROI ratio is called leverage.
Every time you bring in additional revenue, there always seems to be an additional cost that follows. But if you don't have enough leverage and net income declines quickly, it can take a long time to fix. That’s why it’s important for you to rationalize and manage overhead expenses in your landscaping business.
Learning from Peers
BrightView Landscape is representative of the industry as a whole and their financials are accurate as a publicly traded company that must meet the scrutiny of the SEC. Although they only account for 3% of the market, they are subject to the same forces that affect everyone else. What one might expect—and in fact does not see—is that they would excel at leveraging their overhead spending. But they don’t. They achieve the average level of industry net income: 6%.
Even though BrightView is the largest company in the industry, they are facing the same challenges as you. They want to continue to grow, but when this happens their expenses continue to grow as well. As a business owner, you spend a lot of money on this fixed cost and you must ensure that you get a return. In this blog, we’ll cover the fundamentals of overhead and how companies of all sizes can manage their own overhead to improve profitability.
Where to Start
To begin, it’s critical to understand that landscaping companies are a low capital intensity business. It is easy to get into the business and the cost to enter is relatively low. Since the capital intensity is relatively low, cutting capital expenses has a very minimal impact on overhead, and it will not have a large impact on your bottom line. If you want to improve your overhead, you will need to think about more than merely cutting costs.
Overhead can best be broken down into 3 categories: management, equipment, and SGA (selling, general, and administration) expenses. Keep in mind these various categories and the steps you can take with each to improve overhead.
Looking back to BrightView’s report, labor accounts for 40% of the cost of services, and that does not include an additional 15% for overhead labor. With a tight labor market, this expense will likely increase. So how do you manage these kinds of expenses? You don’t need to cut costs; rather, you must improve your overhead leverage ratio, also known as the productivity ration (revenue divided by overhead).
Equipment can be viewed in two different lights. One, it makes labor more effective. If you were to send two workers into the field, one with a shovel and the other with a skid-steer, who is going to be more effective? Obviously, it will be the worker with the skid-steer. He will be able to do more work in less time, allowing the skid-steer worker to accomplish more, and bring in even more revenue.
The same could be said with new equipment. Generally speaking, there’s not revolutionary technology out there that is different from what you already have. Simply keeping your equipment longer and not replacing it with next year’s model can have a similar effect.
If the workers in the field can be more productive with the right tools, management will need to keep up with them. In some cases, additional members could be added to the management team to handle the extra workload, but that would increase overhead expenses and could negatively impact the overhead leverage ratio. An alternative would be to keep the current management staff the same but provide them with the tools they need to be more productive. If an account manager is already handling $2,000,000 worth of revenue, then the right tools may allow them to handle $2,500,000.
Selling, General, and Administration Expenses
Rent, utilities, recruiting, training…the list of back-office expenses can go on forever. Not much can be done to recover indirect expenses—but in these cases, it’s best to do more with less. Take staffing, for example. Reducing staff turnover shrinks the cost of recruiting and training. Training also makes workers more effective in the field, and proper training with equipment can extend equipment life.
What All This Means
For every dollar spent on overhead spending—at a minimum—the same must be recovered in revenue. However, it’s important to improve the leverage of overhead expenses to account for tough times and unforeseen losses in revenue. Managing overhead is not just about keeping the costs down. Instead, it’s about making overhead more efficient, providing you with a better return on your investment.
For more details, view the recorded webinar on this topic below: