Tracking operating costs accurately is critical, yet often challenging, for any business.
Luckily, QuickBooks offers powerful tools to calculate total operating costs, providing actionable insights to optimize financial performance.
In this post, you'll discover step-by-step guidance on setting up comprehensive operating cost tracking in QuickBooks. You'll learn the key formulas for assessing operating costs, how to generate insightful reports, and understand operating cost ratios to guide strategic decisions.
Introduction to Calculating Total Operating Costs in QuickBooks
This section provides an overview of what total operating costs are in QuickBooks and why accurately calculating them is important for businesses.
Understanding Operating Cost Includes in QuickBooks
Total operating costs in QuickBooks include all expenses related to the day-to-day operations of a business. Some examples include:
- Employee wages and benefits
- Rent and utilities
- Raw materials and inventory
- Insurance
- Equipment costs
- Marketing and advertising
- Administrative expenses
Regularly tracking these costs gives visibility into overall spending and cash flow. This helps businesses make informed decisions about pricing, budgets, and optimizing operations.
The Importance of Accurately Calculating Operating Costs
Monitoring and analyzing operating costs accurately is essential for:
- Setting competitive yet profitable pricing for products and services
- Evaluating profit margins across business units or product lines
- Forecasting future expenses more reliably
- Identifying opportunities to reduce spending and optimize operations
- Assessing business performance over time
With detailed visibility into operating costs in QuickBooks, businesses can pursue growth opportunities with greater confidence by leveraging data-driven insights into their finances.
What is the formula for total operating cost?
The formula for total operating cost is:
Operating Cost = Job Cost + Process Cost
Operating costs can be categorized into three types:
- Fixed costs - Costs that do not change based on production volume, such as rent, insurance, interest, etc.
- Variable costs - Costs that change in direct proportion to production volume, such as raw materials, direct labor, commissions, etc.
- Semi-variable costs - Costs that have both a fixed and variable component, such as utilities.
Fixed costs make up a set expense for a company, regardless of production levels. For example, even if a business has zero sales in a month, they still need to pay rent for their retail location or factory.
The importance of analyzing operating costs comes down to managing profits. While revenue refers to the money a company brings in from sales and services, profits are only earned if revenues exceed expenses. So by keeping operating costs low, businesses can improve margins and profitability.
Monitoring fixed vs. variable costs also helps managers make decisions on production levels, pricing strategies, and growth plans. For example, increasing output only makes sense if the marginal revenue from additional sales exceeds the marginal costs of producing those extra units.
Understanding operating costs ultimately provides vital insight into the financial health and efficiency of business operations over time. Having the right framework to categorize costs allows companies to control expenses, reduce waste, and boost their bottom line.
How do you calculate total cost of operations?
The standard formula for calculating a company's total operating costs is:
Total operating costs = Cost of goods sold (COGS) + Operating expenses (OPEX)
COGS refers to the direct costs attributable to production of goods sold by a company. This includes material costs, labor costs in production, and overhead costs in the manufacturing process.
OPEX refers to expenses related to the operation of a business, including things like:
- Rent
- Utilities
- Administrative costs
- Sales and marketing expenses
To calculate the operating cost ratio (OER), you can use this formula:
OER = (Operating Expenses - Depreciation) / Gross Revenue
This shows operating costs as a percentage of gross revenue. It is an useful ratio to track over time to see if you are improving operational efficiency.
Overall profitability depends on both operating costs and revenue generation. Net profit can be calculated as:
Net profit = Operating profit – Taxes – Interest payments
Monitoring the key components of operating costs, gross revenue, and net profit over time is important for understanding the financial health and performance of a business. Business owners should regularly review these metrics and set goals for improving profitability through some combination of:
- Increasing efficiency to reduce operating costs
- Boosting sales revenue
- Minimizing tax obligations
- Reducing interest expenses
Consistently tracking operating costs, benchmarking against industry averages, and setting targets for improvement are key steps to maximizing profitability over the long-term.
What is total cost of operating expenses?
The total operating cost refers to all expenses required to run a business on a day-to-day basis. This includes both fixed and variable costs incurred from regular business operations.
Some of the common operating expenses include:
- Office supplies (paper, pens, printer ink, etc.)
- Accounting supplies
- Insurance (liability, errors & omissions)
- Legal and professional services fees
- Licensing and regulatory fees
- Marketing and advertising
- Payroll and taxes
- Repairs and maintenance
- Travel and transportation
- Rent and utilities
To calculate the total operating cost, you simply add up the costs across all of these expense categories over a certain time period, usually annually.
For example, if over the past year a business spent $5,000 on office supplies, $2,000 on accounting software, $8,000 on insurance, and so on across the various operating expense categories, the total operating cost for that year would be the sum of all those individual amounts.
Tracking total operating costs is important for businesses to understand their complete overhead and make better financial decisions. It represents the baseline cost of running operations before accounting for direct revenues or costs of goods sold.
By keeping operating costs low, businesses can improve their overall profitability and free up more resources to invest in growth. Understanding where operating expenses are being spent also allows businesses to identify areas where costs could potentially be reduced without negatively impacting operations.
What is the total operating expense?
Operating expenses include the ongoing costs of running a business, such as rent, equipment, inventory, marketing, payroll, insurance, shipping costs, and research and development funds.
The Internal Revenue Service (IRS) allows businesses to deduct reasonable and necessary operating expenses when calculating taxable income. Tracking operating expenses accurately is critical for both tax and financial reporting purposes.
To calculate total operating expenses for a period:
- List all operating expense accounts and sum the amounts for each account over the desired period (typically monthly or annually)
- Common operating expense accounts include:
- Rent
- Utilities
- Marketing and advertising
- Payroll
- Equipment costs
- Shipping and delivery
- Inventory costs
- Insurance
- Research and development
- The total of all operating expense accounts equals the total operating expenses
Monitoring the operating expense ratio (operating expenses / revenue) over time can provide insight into a company's operational efficiency and cost management. As a business matures, the goal is often to decrease the operating expense ratio.
Accurately tracking operating expenses and revenue is key for making informed business decisions regarding pricing, budgets, growth opportunities and more. QuickBooks makes the process seamless by automatically calculating totals as transactions are entered.
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Setting Up QuickBooks for Comprehensive Operating Cost Tracking
QuickBooks provides built-in tools to categorize transactions into operating expenses. This section covers the key setup steps required in QuickBooks to start tracking total operating costs.
Enabling Class Tracking for Detailed Expense Monitoring
Turning on class tracking in QuickBooks allows you to tag transactions with customizable categories that can be used to track operating expenses. Here are the steps to enable class tracking:
- Go to the Edit menu and select Preferences
- Select Accounting on the left panel
- Check the box next to "Use class tracking for transactions"
- Click OK to save the settings
Once enabled, you can add classes to transactions like bills, checks, and credit card charges. This provides visibility into operating costs by activity or project.
Creating Classes to Categorize Fixed and Variable Costs
Build operating cost classes in QuickBooks to track granular expenses like wages, rent, materials, utilities, insurance, etc. Classes should match your business's operating activities.
For example, create classes for:
- Fixed costs like rent, insurance, property taxes, etc.
- Variable costs such as materials, wages, commissions, etc.
- Cost centers or departments like production, sales, admin, etc.
Having clearly defined classes makes it easy to run reports later and calculate operating cost ratios.
Organizing Accounts and Sub-Accounts for Operating Expenses
Create general ledger accounts with sub-accounts to record different types of operating expenses flowing into various cost categories.
For instance, set up a "Cost of Goods Sold" account with sub-accounts for:
- Materials
- Labor
- Manufacturing Overhead
Likewise, establish an "Operating Expenses" account with sub-accounts based on fixed vs variable classification:
- Fixed
- Rent
- Insurance
- Depreciation
- Variable
- Commissions
- Repairs & Maintenance
- Utilities
Recording transactions using this account structure provides the framework for monitoring operating cost trends over time.
With QuickBooks configured using these best practices, businesses can accurately track total operating costs and make data-driven decisions.
Recording Operating Expenses in QuickBooks
This section explains how to capture operating costs across business transactions like bills, invoices, checks, credit cards, etc. using the classes and accounts set up in QuickBooks.
Categorizing Transactions Using Operating Cost Classes
When entering any transaction in QuickBooks, be sure to select the appropriate operating cost class based on the expense account used. For example, if paying utility bills, categorize it under the "Utilities" class. If purchasing office supplies, use the "Supplies" class. This allows you to tag each transaction with a custom category for tracking operating expenses.
Here are some tips:
- Set up operating cost classes under Lists > Class List that match your key expense categories like Utilities, Rent, Supplies, etc.
- Train staff on properly selecting classes when entering transactions like bills, checks, credit card charges, etc. Ensure accurate classification.
- Run class-specific reports periodically to analyze spending trends across operating cost categories.
Properly categorizing transactions is crucial for getting an accurate breakdown of total operating costs.
Ensuring Accuracy Through Regular Account Reconciliation
To ensure transactions are properly captured and classified, reconcile related operating expense accounts regularly. Follow these best practices:
- Reconcile bank and credit card accounts weekly to match transactions.
- Reconcile key operating expense accounts like Utilities, Rent, Supplies monthly.
- Review reconciliation reports to check for unclassified transactions. Re-categorize if needed.
- When an account doesn't reconcile, research transaction discrepancies.
Making account reconciliation part of your regular routines will help avoid misallocations and ensure accurate financial reporting on operating costs.
Generating Reports to Assess Total Operating Costs
Once operating expenses data is flowing into QuickBooks, useful reports can be generated with actionable insights into spending across business activities.
Utilizing the Profit & Loss Report for Operating Cost Insights
The Profit & Loss report in QuickBooks provides a high-level overview of operating costs and revenue over a specified time period. Within the report, expenses are categorized into sections like Cost of Goods Sold and Operating Expenses.
The Operating Expenses section sums up periodic and year-to-date totals for common overhead cost categories like Advertising, Auto & Truck, Depreciation, Insurance, Rent, Repairs & Maintenance, Supplies, Travel, Meals & Entertainment, Utilities, and Other.
Monitoring changes in these operating cost categories from period to period and year to year with the Profit & Loss report can reveal spending patterns and opportunities to optimize budgets. The report also calculates important operating cost metrics like gross profit margin percentage.
Delving into Details with the Class Report
While the Profit & Loss report shows aggregated operating expenses by category, QuickBooks' Class report allows drilling down into the individual transactions that make up those totals.
Classes in QuickBooks enable custom categorization of transactions using a company's chart of accounts. By setting up classes for operating cost accounts and assigning them to related transactions, detail can be viewed in the Class report.
For example, classes like Individual Sites, Departments, Projects, etc. could be created. Transactions tied to those classes would then show granular operating cost data when running the Class report. This allows analyzing spending across different parts of an organization.
The Class report shows balances by class and account over any specified period. The report can be filtered and subtotaled by class as needed. These detailed insights help identify opportunities to reduce operating costs.
Understanding and Applying Operating Cost Ratios
Viewing operating costs as a percentage of revenue over time helps businesses evaluate spending efficiency and improve profitability.
Calculating the Operating Cost Ratio Formula
The operating cost ratio shows the relationship between a company's operating expenses and net sales. To calculate it, divide total operating costs by total revenue in a given period.
For example, if a company had $2 million in operating costs and $10 million in revenue last year, the operating cost percentage would be:
$2 million (operating costs) / $10 million (revenue) = 20% operating cost ratio
The lower this percentage, the more efficient a business is at controlling costs relative to sales. Aim to reduce this over time by lowering controllable operating expenses.
Leveraging the Operating Cost Percentage Formula for Strategic Decisions
Analyze trends in the operating cost ratio and its components to uncover spending inefficiencies. Look at:
- Fixed vs. variable cost breakdowns
- Cost of goods sold
- Salaries, wages, benefits
- Rent, utilities, equipment costs
- Marketing, general & administrative expenses
Monitoring changes in these operating expense categories as a percentage of revenue can identify areas for potential cost savings. For example, if marketing costs rise from 5% to 8% of revenue without an uptick in sales, this suggests excessive or ineffective spending.
The operating cost ratio is a useful formula for evaluating business efficiency over time. Tracking it regularly and digging into the details guides impactful expense management decisions.
Conclusion: The Significance of Operating Cost Management in QuickBooks
Accurately tracking total operating expenses in QuickBooks provides visibility into profitability and helps drive better financial decisions.
Recap: Implementing Effective Operating Cost Tracking
Use classes, accounts and sub-accounts to categorize transactions into operating cost buckets that make sense for your business. This enables you to clearly see where money is being spent and identify areas for potential savings.
Some best practices for setting up operating cost tracking in QuickBooks include:
- Create accounts for each major operating expense category like payroll, rent, utilities, etc.
- Set up classes to track operating costs by business unit, department, location or project.
- Use sub-accounts for additional granularity within broader expense categories.
Taking the time to properly structure your chart of accounts and classes ensures you can generate detailed reports on true operating costs.
Final Thoughts: Regular Reporting and Ratio Analysis
Generating operating costs reports periodically and analyzing ratios over time highlights spending efficiency issues to focus cost reduction efforts.
Key operating cost ratios to monitor include:
- Operating Expense Ratio = Operating Expenses / Net Sales
- Cost of Goods Sold Ratio = COGS / Net Sales
An increasing operating expense ratio over time shows spending is growing faster than sales. A high COGS ratio indicates inefficiency in producing or procuring inventory.
By keeping a close eye on operating costs and ratios, you can catch problems early and take corrective actions to improve profitability. Managing operating expenses is critical for the financial health of any business.
