How to Calculate your Overhead Rate

Have you ever contemplated the true cost of a sale for your business?

A good way to do that is to calculate your overhead costs.

Let’s say you provide computer repair services.  Think about all the costs of providing your repair services.  You have your time, and the mileage costs to get you to the customer, and the cost of whatever part or equipment they need installed or replaced.  But what about your overhead costs?

What is overhead you ask?

Overhead is all the costs of doing business that are not directly associated with your product or service. Some examples of overhead costs would be:

  1. Rent
  2. Administrative/office personnel payroll
  3. Utilities
  4. Advertising
  5. Accounting / Legal costs
  6. IT Services
  7. Supplies

Let’s dissect the costs for the computer repair service company.

 

First, there’s the direct costs of providing the service, then there’s the indirect costs, or overhead.

Direct Costs:

  1. Direct Labor – you and/or employees who directly work on the computers
  2. Direct Materials – the parts/equipment you hook up/replace
  3. Freight – travel costs you incur getting to/from the customer

Indirect Costs:

  1. Rent of your storefront/office space
  2. Heat/electric/phone/internet for your store/office
  3. Payroll for any office personnel
  4. Advertising costs
  5. Accounting/legal costs
  6. Dues/subscriptions to trade publications/organizations

 

To figure out your Overhead Rate, you add up all your Overhead costs – estimated – for a year.  Let’s say they add up to $100,000.

Next, estimate the total number of labor hours available to work.  If you are the only worker, and you work 40 hours a week for 50 weeks a year, that’s 2000 hours.

 

Take your total Overhead Costs divided by your total Labor Hours to get your Overhead Rate.

In the example here, that would be $100,000 / 2,000 hours = $50 per hour.  If you have one employee besides yourself who works the same 40 hours for 50 weeks a year, you would add your 2000 hours/year and the employee’s 2000 hours per year to get the total Labor Hours.  The calculation would be $100,000 / 4,000 hours = $25 per hour.

 

Let’s say you send your employee to a customer’s place of business to install a computer and get it working.

You have Direct Costs:

Costs of Computer $600
Labor Costs $  50  1 employee for 2 hours at $20/hour + benefits
Travel $  20  40 mile round trip at $0.50/mile
Total Direct Costs $670

 

And you have Overhead:

2 hours at $25/hour $  50
TOTAL COST OF SERVICE $720

 

 

Add the Direct Costs and the Overhead to get your Total Cost of Service.

 

Now, make sure your billing rate is more than your cost and you will make a profit.

 

The important thing to remember about your Overhead Rate is that costs change.  Prices go up.   Try to keep your costs stable.  It’s also a good idea to periodically recalculate your Overhead Rate to make sure you are charging enough to cover your costs and earn a profit.

Growing a Small Business

 

Ideas to help you expand your business and make it more profitable.

growing a small business

 

Growing a small business takes a lot of thought and planning.

One of your greatest accomplishments has been opening a small business. Maybe it took years of saving, doing without, or maybe you were the victim of corporate downsizing and decided to take your future into your own hands and start a small business.

But here you are. Your own business, in all its fledgling glory.  Now what?

You need to keep the wheels turning and move things forward.

Growing a small business can take many forms, depending on the business, but let’s look at a few ideas.

 

Ways of growing a small business

 

1.Add a complementary product or service.

Maybe you run a greenhouse and sell to retail outlets like grocery stores. What about opening a store on your premises and sell some of the flowers right there? Or maybe you provide computer repair services. What about adding computer software training as well?
2.Teach a seminar at your local community college or write an article for your local paper

This could give you some added exposure for your small business. You’ll be tapping into another customer base by providing them with useful information.
3.Friends and family.

Ask your friends and family to refer folks they know to you. After all, they know you best and can give a glowing referral!
4. New Employees

Have you added new employees lately? Tap into their circle of friends and family for some new customers.
5.Expand into a new territory.

Maybe you operate a business consulting firm, and have just been advertising in your town.  Expand your advertising to nearby towns for new customers. For retail operations, think about setting up a keosk in a nearby mall or, if you have the volume, research setting up a branch location.

 

6.Increase your profit margin.

Profit margin is part of your accounting ratio analysis, but to be very simple this is the percentage of your profit. You sell a widget for $50 and it cost you $25 to make, you have a 50% profit margin. To increase this percentage, you would need to increase your price or decrease the cost to make it.
7.Get online.

Is your product or service something you could sell with a website? Lots of books on small business advise encourage businesses, even small ones, to have a website, even if it’s just for giving potential customers information about your business and your service or products.
8.Foster good relationships with your vendors.

If you suddenly need to double your order, will they try to work with you? They will if you’ve worked at the relationship. Pay your vendors promptly and maintain goodwill between your businesses. They will also try to get you a better price the more you purchase if it increases their sales as well as yours.

 

9.Ask for referrals.

Adopt a refer-a-friend policy.  Satellite tv providers use it, even banks use it.  Ask your customers to refer a friend that buys your service and get $50.
10.Plan for growth.

Don’t just assume growing a small business will just happen, or that everything else will just fall into place once it does. If you expand into a nearby territory and increase your business by 30%, will your staff be able to handle it? Will your suppliers? Will your cashflow? Plan first. Then go after the new business.

 

No matter if you’re just pondering opening a small business, or if you’ve been running a small business for a few years, growing a small business should always be on your planning calendar.

So always be on the lookout for new products or services you can add and new markets for your business.

 

Need help planning ahead?  Here at Small Business Accounting Solutions we can help you plan for upcoming changes in your business.  Check us out.