When I talked about a Strategy associated with Inorganic Growth, I did this in two steps. The first step was to provide a context to talk about a specific strategy. I will approach Leverage in the same way. We will end up with a way to look at our Cost Replacement strategy and where we might find some of the best Leverage. Today, we will focus on the context for that discussion.
First, let us return to what Leverage is. Leverage in this context is all about how to apply the pot of money from our strategy to provide the greatest improvement in the numbers once that money is spent. We are going to be evaluating this improvement based on profit improvement.
There are 2 dimensions that I want to talk about spending the money. The first dimension is whether the money will be spent on Revenue Generation or Cost Reduction. In financial terms, cost reductions are going to be the most attractive ways to spend money. Every dollar saved becomes a dollar of profit. Revenue dollars fall through to profit only after the cost to make the product or service happens. There are many ways to spend money for Revenue enhancement. This makes these types of spends much more attractive.
The other dimension is whether this is a one-time expense or an ongoing expense. One-time expenses are more attractive because they have end dates associated with them. Ongoing expenses are generally related to hiring but can be other expenses as well.
Now, I know you are thinking: How can you have an ongoing expense that is a cost reduction? I will admit that these situations are specific and not always available. One example would be an improvement in benefits that would allow employees to reduce their dependence on Worker's Compensation for medical treatment. The reduction in Worker's Compensation may more than pay for the increased costs for benefits.
I want to return to an example from our Strategy discussion. We were talking about hiring a Salesperson. In that case, to make a company more profitable than the amount of Gross Profit from the Salesperson has to exceed their fully burdened cost. Gross Profit is the Revenue of that business minus the costs to make it happen. Fully burdened cost is the total cost of an employee not just their salary.
To be specific, let us say you hire a Salesperson for $50,000. Most burdens can be estimated at 30% of salary or in this case $15,000. This means that fully burdened cost is $65,000. To make this hire profitable, that means that the business generated by this person must generate over $65,000 in profit. Let us say that you get to keep 50 cents on every dollar sold (aka 50% Gross Margin). That means the Salesperson needs to generate at least $135,000 in business to be profitable. If I was setting a quota for that person, I would do it above $150,000. That quota might be substantially higher.
I hope now that we have set the context, we can talk about some ideas. Have a great day!
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