Accounting 101: What Are Operating Expenses?

If you plan to open a retail store in the future, this article will help you understand a core part of your business: operating expenses.

We’ll answer retailers’ common questions about operating expenses. We will cover:

What are operating expenses?

Operating expenses are the essential costs you pay to run and operate your business.

They include expenditures such as rent, inventory costs, marketing, and payroll, said Hillary Senko Cullum, a wholesale and retail consultant operating at HSC Advisors.

“While these are unavoidable costs to keep your business running it is important to be diligent about the level of expenditures and ensure they are workable within your cash flow,” she said.

Good to know

Capital expenses vs operating expenses: what’s the difference?

Business expenses can be a little confusing, whether you are considering starting a new retail business, or up-and-running but handling your own bookkeeping and accounting.

They fall into two basic categories: OPEX and CAPEX. Here’s how they differ.

Understanding CAPEX

Capital expenses include costs for long-term benefits such as equipment purchases, building improvements, or technology, explains Jessica Distel, a certified public accountant (CPA) and a managing director at Buckingham Advisors. “Capital expenditures are often not effectively budgeted for and can result in unexpected depletions of cash flow,” said Distel.

Examples of capital expenses include:

Expanding your current retail space
Opening a new brick-and-mortar store
Replacing air conditioning or a roof

“Setting aside a percentage of revenue or profit into a savings account specifically designated for capital expenditures is a great way to plan for future costs that may be on the horizon,” said Distel.

Understanding OPEX

To recap, operating expenses are the costs of running a business and may include costs such as rent, utilities, marketing and payroll. “Operating expenses are a necessary component of a business and should be analyzed and budgeted for,” said Distel.

COGS vs OPEX

Your cost of goods sold (COGS) are expenses tied to sourcing or making your products and bringing them to the place where you will sell them. “That usually includes the cost of the inventory, freight, duties, shipping and packaging, said Abir Syed of UpCounting. “Expenses incurred during the process of selling the inventory are usually excluded from COGS, such as rent for a showroom or salaries of the salespeople or marketing.”

How do you calculate OPEX and CAPEX?

Retailers can calculate OPEX and CAPEX using the following formulas.

If you plan to open a retail store in the future, this article will help you understand a core part of your business: operating expenses.

We’ll answer retailers’ common questions about operating expenses. We will cover:

OPEX formula

Add expenditures for running the business and subtract any cost of goods sold (COGS).

CAPEX formula

Total all spending on buildings, equipment, or business acquisitions. Add depreciation.

“Operating expenses are typically more important for a retailer as they are indicative of the health and performance of the business,” said Syed. “Capital expenditure isn’t irrelevant, but in a lot of cases as long as it’s not egregious, strong operations can cover CapEx requirements, or they can be financed through loans or equity.”

Senko Cullum suggests retail businesses carefully evaluate the goals and purpose of any capital expenditure, before spending, to understand the expected value or growth potential.

How to track CAPEX and OPEX

Track all expenses in accounting software like QuickBooks, suggests Armine Alajian (CPA), founder of the Alajian Group. “When you make a purchase from a debit or credit card, categorize that expense in the proper expense account.”

Syed agrees it’s best to regularly calculate expenses by using accounting software, so you know where certain cash outflows belong in the records.

And Distel echoes this advice, adding that tracking and reporting historical costs are integral components of budgeting for (and forecasting) upcoming costs and projected profits. “Performing a routine overhead cost analysis may help a business owner determine ways to reduce costs or make the business run more efficiently,” she said.

What are some examples of retail operating expenses?

As a retailer, your operating expenses will be much different from other kinds of businesses. Typically, the top retail operating expenses include:

Salaries: Payroll costs typically make up a significant portion of your budget. Your business also has to factor in taxes and benefits for employees here.
Store rent: You might pay more in rent for a prime location with high foot traffic, while an online retailer might not have to think about this expense at all. Renting usually comes with added expenses for maintenance, cleaning, utilities and tax.
Marketing and ad spend: This covers all your spending on traditional channels like television adverts, print coupons, Google Ads, and social media promotion.
Product deliveries: Delivery costs for retailers can vary significantly depending on the size and weight of the product being shipped, as well as the distance it needs to travel.

Like other businesses, retailers are also likely to spend recurring monthly amounts on:

Software subscriptions
Ecommerce platforms
Website maintenance
Merchant and bank fees
Telephone and internet bills
Light, heat, cooling, and energy
Commercial rent
Transport
Consulting

It is easy for operating expenses like marketing to grow quickly, said Senko Cullum. “For this type of expense, it is essential to evaluate the return-on-spend, meaning are you receiving a positive sales impact based on what you have spent?”

“Expenses like marketing have a more direct tie to revenue, making it easier to build metrics around the return on investment. But all OPEX should be evaluated to see if it is positively impacting topline sales while not degrading bottom-line profits,” she said.

What’s excluded from operating expenses?

Operating expenses do not typically include one-time costs such as capital investments or long-term debt payments. These business costs, and a range of others, are what are known as non-operating expenses.

Understanding non-operating expenses

Non-operating expenses are not related to a company’s core business operations. These can include:

Fees for legal services
Charges for interest on loans
Gains or losses from asset sales

Non-operating expenses still need to be monitored closely, so you can make financial decisions and accurately calculate your business’s earnings.

What’s going to happen with retail operating costs in 2023?

It’s expensive to run a retail business right now. Retailers are experiencing a general increase in expenses across the board, said Lee Whitaker, general manager at the Parker Avery Group.

“General global unease related to conflicts in Europe and threats in the Pacific is driving this through price inflation,” said Whitaker. “Interest rate increases have made access to capital more difficult than in recent history.

Both day-to-day expenses and long-term expenses like facilities, equipment and infrastructure are seeing price increases related to supply chain issues and legacy impacts from COVID-related interruptions or delays, he explained.

Preparing for rising retail operating expenses

Amid such rising costs, retail stores may be forced to increase the pricing of their merchandise or recognize a reduced profit margin, said Distel.

“When making such decisions, I would highly recommend that business-owners research performance metrics and key performance indicators for their specific industry and market. Doing so can help the business stay competitive,” she added.

Senko Cullum believes the best way to manage OPEX is to set quarterly budgets, then evaluate actual expenditures against budget. “This allows you to understand what areas are spending more and where you can potentially cut back,” she said.

From: https://www.lightspeedhq.com/blog/what-are-operating-expenses/