Calculating and managing overhead

  • It all adds up: overheads have to be carefully calculated as part of a business plan

    It all adds up: overheads have to be carefully calculated as part of a business plan


The business of being in business in Bermuda using a hypothetical Bermuda family launching a pizza business.

“If you can’t control your overhead costs in a business, it will kill you!” That was our father, the Bermuda Sewing Machine man’s, mantra. He lived this fact only too well. He, with our mother, owned and operated a small sewing machine repair business in Bermuda for almost 50 years.

A few years into the business operation, out of the blue, the cost of his monthly shop lease on Church Street quadrupled, forcing him into finding more reasonable premises.

You can imagine how that increase could impact anyone’s already thin bottom line margins. Our parents were forced into the rapid purchase and another mortgage of a rundown building nearby that they then converted into a store front. However, challenged, they had learnt two valuable lessons:

• They would control their own business destiny, never beholden to a landlord ever again.

• They would maintain a decent cash surplus in preparation for any future contingency, given that business and life can be completely unpredictable.

Business overhead is the sum total of all fixed costs that must be paid to operate a business whether or not the service or product sales volumes increase or decrease.

Almost everyone loves pizza, statistics out of the US and for the UK cite that 93 per cent of residents enjoy it at least once a month. It’s easy to deal with, cheap enough for a family, and can be purchased in myriad ways: frozen, DIY, ready-made dough, or probably, the best — straight from a genuine pizza operation — hot off the brick oven.

Monthly fixed costs overhang production no matter how few pizzas (or clothing, electronics, consulting projects, etc) are sold in a month. Certainly, no business can survive for long with the constant pressure of fixed-cost liabilities without seeing a steady increase in sales volume.

The stress can be insidious if business owners have invested their retirement savings, or borrowed set up cash from financial institutions. Almost all businesses, mega-giants to tiny start-ups: retail stores, service organisations, and the like face similar overhead burdens.

The basic fixed business expenses are pretty self-explanatory. Moneywise attempts to estimate realistic costs, but the emphasis first is on the process. Please note! Any inaccuracies are not intentional. Any reader seriously interested in starting a business must define operating costs to the finite extreme.

Rent, utilities, internet/phones, payroll, insurance, vehicles, maintenance/cleaning, social media, mortgage interest, etc

• Rental store front, street level with good foot traffic choice. Current Bermuda commercial leases are priced at $2-3 per square foot, so let’s say the pizza operation is 800 square feet at $2,400 a month. Alternatively, own real estate, but mortgage payments would tend to be significantly more, although the family would have complete control of their property pricing.

• Commercial mortgage expense, principal and interest, if renting is not a choice.

• Utilities: pizza oven(s), warming trays, air conditioning, lights and other appliances. Bermuda has one of the highest electricity rates in the world. Single tray pizza ovens use 3.5 kilowatts per hour, compute with .25 cent average charge per kWh operating at six to ten hours daily, more on weekends, seven days per week, equals an estimated $90 per day, $2,700 monthly. Lights, A/C, miscellaneous equipment, estimate another $300-$400. Internet, communication devices support: $300.

• Payroll: the family hires their Bermudian relatives, but structural challenges (and success rates) may change that equation.

Two full-time counter/chef participants and one part-time delivery person. Rose, the matriarch, will work alongside, but declines a salary. She wants this business to grow, a living legacy for her children.

Two full-time staff — 50 hours a week at $25 per hour (no overtime) = $10,000 monthly.

Delivery person contemplated, but not yet hired, at four hours per day, six days per week at $15, equals $1,500 per month.

• Benefits, some mandated: health insurance, 5 per cent national pension scheme match, payroll tax, old age contributory pension, term life insurance.

• Business insurance: key man insurance for estate succession planning, always a good contingency plan; business interruption, thefts, disaster; liability, food, accident; property contents; workers’ compensation; vehicle.

• Premises and equipment maintenance.

• Social media, generic advertising, website maintenance and other items.

The chart shown is an estimate template that merely attempts to numerically define some of these costs, but, we know that there may be quite a few additional numbers for a real new business start-up.

Thus, the hypothetical pizza company’s overhead burden is a total of $19,000. This is “gulp” large number — readers, are my estimates correct? What would you do? What do you think is missing? How would you handle the fixed costs of running a business.

Send me your thoughts.

In addition, lest we forget, Bermuda has a new notional tax on undistributed profits and dividends, a sugar tax, plus corporate annual filing fees, accounting, legal, health regulation fees, and finance advisory expenses that will affect the bottom line.

Next step. The overhead burden is added (in increments) to the total cost of each pizza produced. What does this mean for pricing pizza purposes? Are their overhead costs too high? How to adjust costs to become more competitive?

Read on for the next piece of the pizza financial puzzle.

November 3, 2018: next in the series on being in business. Just how many pizzas must our entrepreneurial family produce at what price and — so importantly — sell in a month to break even? To make a profit? What are the raw ingredient costs for one pizza? How to account for detrimental losses such as spoilage, theft, customer dissatisfaction, changing consumer tastes?

It all adds up.

Resources

All prior articles in this series are listed in last week’s column, Business ownership, a round-the-clock job, October 13, 2018, http://www.royalgazette.com/martha-myron/article/20181013/business-ownership-round-the-clock-job

How to calculate your breakeven point? www.thebalancesmb.com/how-to-do-a-breakeven-analysis-1200834

Martha Harris Myron, CPA, CFP, JSM: Masters of Law — international tax and financial services. Dual citizen: Bermudian/US. Pondstraddler Life, financial perspectives for Bermuda islanders and their globally mobile connections on the Great Atlantic Pond. Finance columnist to The Royal Gazette, Bermuda. All proceeds earned from this column go to The Reading Clinic. Contact: martha.myron@gmail.com

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Published Oct 20, 2018 at 8:00 am (Updated Oct 19, 2018 at 11:58 pm)

Calculating and managing overhead

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