Direct Labor Expenses as a Percentage of Revenue

Labor expenses are often increased with the amount of skill that is necessary to make a product.

Direct labor expenses tend to vary as a percentage of revenue. It is almost always the goal of any private company to reduce its labor costs to zero. The closer a company can get to this goal, the higher its profit margin will be and also the more competitive its pricing. The degree to which labor costs can be reduced depends a great deal on the type of product that's being created. Many products require a greater deal of skill to be manufactured and so have higher labor expenses associated with them.

Capacity

One of the worst events that can happen to a business is to miss out on an opportunity because it doesn't have the necessary number of workers. For this reason, companies often build up their workforce capacity in order to meet increases in demand before they occur. This becomes a natural part of the planning process of any business. Many times, in order to be prepared for future increases in revenue, a company must first increase its labor costs by hiring new workers. This will temporarily increase the percentage of labor costs, at least until revenue is likewise increased.

Outsourcing

With globalization, it has become common for many companies to outsource at least a part of their workforce to other countries where labor costs are lower. This practice has become controversial as some feel that it leads to unfair competition among workers and lowers their wages. Others argue that it gives workers in less-developed areas a chance to earn a better living than would otherwise be possible. Regardless of the controversy, there is little doubt that outsourcing has allowed many companies to significantly lower their labor expenses as a percentage of revenue.

Overhead

Many businesses overlook the costs of their labor expenses and don't take them into complete account as a percentage of their revenue. One step that companies often take when attempting to improve their performance is to take a closer look at their labor costs and see how they can either reduce them or take them into more consideration with their business practices. Often in the service industry, this can mean taking steps such as increasing prices to better match the amount of time employees spend serving customers.

Turnover

One consideration that sometimes gets overlooked in the effort to reduce labor costs is the effect of turnover. By lowering wages, a business will make it more likely that its employees will at some point leave their jobs. Turnover can be costly over the long term, as money will have to be spent on training new employees and bringing them up to speed on company operations. A business often has to perform a tough balancing act by seeking to lower its labor costs while not at the same time alienating its more-valuable employees.

References

• USA Today: Google's Rapidly Rising Expenses Crimp Earnings
• The New York Times: Does Outsourcing Cost More Than It Saves?
• The New York Times: An iPod Has Global Value. Ask the (Many) Countries That Make It.
• University of Massachusetts: Menu Analysis for Coffee Shop Operation -- Using Activity-Based Costing
• CNN Money: In Praise of Organized Labor
• CNN Money: A New Tool for Managing Costs