In this article, we consider those growing businesses with a great proof of concept but maybe no finance team to help uncover exactly what expenses are and aren't. We also look at other costs that may seem like expenses but shouldn't be classified as such. Then, we uncover some of the ways growing companies can manage, control, and reduce expenses to improve cash flow and operating profit.
What is a business expense?
A business expense is a cost involved with running the operations of, and growing, a company. Expenses are needed to generate revenue because daily operations would be stagnant without them.
From defining allowed expenses to considering how they will pay for them, there's a lot to think about for a company just starting out.
Examples of expenses include costs such as:
- Travel costs. For example, a project team needs to travel to a supplier location to discuss a new product launch
- Accommodation. The said project team not only has to travel to a location, but considering the schedule of activities, they also need to spend nights away from home in a hotel
- SaaS tools. These subscription-based tools will likely be vital to keep your business ticking over and can include anything from HR software to website SEO reporting
- Staff entertaining. When a team manager takes a team out for dinner and drinks to introduce some new members
- Client and prospect entertaining. For many businesses, such as management consultants or advertising agencies, entertaining clients is a huge part of new business and client success. Anything can go here, from lavish dinners to once-in-a-lifetime trips — all of it = expenses
- Supermarket runs. An office manager might go to the supermarket to top up the croissants or do a weekly online shop.
Note the differences in the above examples. While a regular subscription payment can potentially deliver tangible value to the company, some of the other examples are harder to measure; take, for instance, the ROI of a meal out with a prospect (unless you close the deal that day).
Expense policies can go a long way to controlling costs in your company. From the croissants to the SaaS tools, by creating and setting policies, your company can make a clear framework to socialise what is and isn’t allowed in order to keep the company in good financial health.
One of the advantages of working with a spend management company, like Payhawk, which includes corporate cards and expense management software, is the ability to implement hard-to-break expense policies. Your finance team can set agreed spend limits in the platform and update them across different personal and team cards. And they can build in workflows for approvers, too. So, if a card user needs to request more funds, the approval can go through one or more senior team members.
By including workflows, spend limits, mileage, and more, your business can make sticking to policy part of everyday spending for work for its employees and encourage really high compliance.
Why do we monitor expenses?
It’s essential to monitor expenses and ensure all expenses claimed are within the framework of the set policies and deliver value back to the business.
If new business teams are travelling all over the country but have a low conversion rate, it might make more sense to concentrate efforts on accounts closer to the office.
If profit margins have fallen because of external pressures on the business, it might be time to look at that generous staff entertainment budget. Here’s where expense and spend visibility are key. With company cards and associated expense management software from Payhawk, your finance team can see company spending in real-time and find ways to optimise spend control, budgets, and policies.
Here’s a list of the most common reasons why companies monitor expenses (or should):
- Control costs
While expenses are needed to run the business, they can also get out of control.
If a new business team claims expenses to entertain clients, monitoring the levels of spend is key to avoiding shocks. It’s also important to dwell on how these expenses are actually bringing revenue back into the business. Is the £900 restaurant bill necessary to close an account worth £2,000 to the company?
Essentially, it’s less about keeping expenses low and it’s more about making sure expenses translate into profit (whether generating new revenue streams or protecting existing revenue).
- Avoiding expense fraud
It’s an uncomfortable truth that some employees misuse expense policies to claim expenses for personal gain instead of the business.
Research from the Global Payroll Association places the cost of expense fraud over $2bn a year. According to the study, one in ten employees place erroneous information “all the time,” while 1 and 5 do it “sometimes.”
Employers want to trust their employees when claiming expenses. For this, they need to keep control and double-check that policies are understood and agreed with. In turn, they need to check that employees are claiming honest expenses for any costs necessary to get their work done.
- Categorise spending for better analysis
Companies that monitor expenses will also put them in spend categories, making analysis possible.
The right approach to analysing expenses is considering the return on investment of said expenses. Therefore, having expenses classified by categories and teams makes this possible.
Companies should avoid falling into the trap of thinking that expenses are necessary evils. While expenses are not assets and can't be sold nor leased for cash, they should be considered investments into the company's welfare and therefore interrogated through this lens.
- Include in the P&L
Expenses are included in the Profit and Loss sheet to understand how income and outgoings compare, forecast company performance, and alert of unsustainable levels of outgoings.
When things get tough, businesses can look at historical (and even real-time) spending and make some decisions to keep the business healthy.
The difference between a P&L and the balance sheet
The need to distinguish between expenses and other forms of business spending such as investments, assets, or liabilities is there to precisely understand the company's value. Two main instruments to this effect are profit and loss sheets (P&L) and the balance sheet.
Profit and loss sheets give an overview of income vs. outgoings. They tend to be constrained to the current financial year because they’re trying to understand the business “the way it’s currently running.”
They try to answer the question: is this company profitable?
Therefore, it will include operating expenses and other forms of outgoings such as salaries. Together, they indicate how much the business needs to keep running.
Profit and Loss sheets will also include the net revenue.
By accounting for both sides (money in and money out), the company understands cash flow, business health, and operating profit well.
On the other hand, balance sheets are aimed at getting a final view of the business at the time they're produced. They are concerned with assets (things the business owns that have value and can be theoretically exchanged for cash) vs. liabilities (the business's debt to other entities).
They try to answer the question: how much is this company worth?
The buyer will be interested in both documents if a company is being sold. The P&L shows the business's health and current status of play. At the same time, the balance sheet provides a comprehensive insight into the company's worth.
Let's say a P&L shows an excellent operating profit that's above the industry's benchmark; this will make the business an attractive purchase.
However, that could change if the balance sheets reveal hefty long-term debts such as a mortgage, low inventory, depreciated assets, and much of the business equity distributed across stakeholders.
What are examples of costs that aren't expenses?
Costs that aren't expenses are assets and liabilities.
Assets cost money to acquire, but the cost of an asset isn't considered an expense because assets retain tangible value, whereas expenses do not.
Fixed assets can't be sold quickly. Examples include buildings, office land, furniture, and machinery.
It's essential to make this distinction to signal that the money isn't really available during an emergency. But also to point out those assets that won't be used up (too much). And therefore, could retain their value or even increase (e.g., in the case of property). Other assets, however, will depreciate.
Current assets can be sold or exchanged for cash quickly. However, they might also be simply used up by the business's normal operations by the next financial year.
Examples of current assets include financial assets (e.g., securities that can be sold), money owed by customers, inventory, and of course, cash.
Liabilities are what the business owes to others. Liabilities "balance the sheet" by contrasting what the company owes to what the company has or should receive.
Examples include loans, mortgages, pensions, money owed to suppliers and investors, and other warranties. Interest paid on any of those liabilities are also not expenses but should be accounted for as the liability itself.
Salaries, including those of contracting staff, are costs to the business but not expenses. They are a form of liability, as regular employees will need to be paid severance packages if the firm can no longer afford them.
How can you ensure you only spend money on what's important to you and your business?
Now that we've got that out of the way, let's bring our minds back to some of the expenses that are harder to measure in terms of ROI: mileage, transport, entertainment, and sustenance. (Not looking at SaaS for now). The below details how you can make sure your expenses are under control and fairly used:
- Establish policies
The best start is to write a brief expense policy that clarifies what employees can claim as an expense and the circumstances in which they can do so.
For example, the policy might say employees can claim up to $20 for dinner and $30 for a taxi if they're working past 6 pm, but only $10 for lunch. This specificity will make your employees comfortable that they're doing the right thing and that they don't need to second guess themselves.
- Give people company cards with control features
Rather than allow employees to use their own money to pay for expenses, give them a company card they can use instead. Not only is that a much better employee experience, but it also means you can establish control workflows, such as
- Limits on spending amounts
- Limits on where the card can be used (e.g., not in an ATM)
- Limits on times and days where the card can be used (e.g., not on Saturdays)
- Analyse the return on investment of expenses
Value needs to float back to the business for every bit of spending.
Even fluffy expenses such as staff entertainment can drive value back as an energised workforce with better motivation and working relationships to get the work done.
However, this is not necessarily the case. Analyse the total cost of staff entertainment and consider both its success in delivering positive outcomes (are people actually energised from the Christmas party) and its value vs. alternatives (would people be better off with a more sensible Christmas party if it means more generous company bonuses).
To ask these questions is to optimise your spending. Your employees will thank you for it.
Are there any other ways to save money beyond reducing expenses?
There are ways to save money that are not direct costs.
Outsourcing business functions such as bookkeeping or payroll might seem like a cost initially, but it reduces the liabilities of permanent employees. You should also consider that the actual cost of an employee is much higher than their salary (they need IT and a desk in an office to work, claim expenses, and require expensive training from time to time).
Other things to bear in mind are vendor negotiation (most B2B prices are susceptible to discounts) and reducing your reliance on office locations with remote and hybrid working.
How can expense management software help you identify and control your expenses efficiently?
Expense management software is the way to control expenses efficiently.
It allows employees to submit information accurately, timely, and in a classifiable way. Without this, you'll be at a loss every month on what's been spent, where, and when.
When expenses come on time and are rightly classified, analysis from the finance team is possible, better questions are asked, and more effective decisions are made.
Payhawk also delivers a better employee experience, as submitting expenses is easy and convenient. The employee simply snaps the receipt, and then OCR technology transfers the data from a photo or invoice, so there's no manual data entry. Finance teams and team leaders can also set the customisable fields so the spend can be correctly assigned to a project or team budget.
The above improves the accuracy of expensing and reduces the chances of fraud. And, because the experience of submitting expenses is much improved from traditional methods, you can enforce more stringent policies around claims, and the tool even reminds users to update their receipts, so your finance team doesn't have to.
Are you ready to find out how modern expense management software can help you stay in control, limit your company expenses, and give your employees a great experience? Book a demo today.