Why viewing labor as an expense is wrong!

Why Building a Great Team is Your Best Investment to Scaling

The Challenge of How We are Taught to View Labor

At all sizes of business, big and small, employees are frequently viewed by management as an expense. It’s not just management who view employees as an expense, investors often have the same tone. When a public company announces layoffs, stocks usually go up. Investors view the layoffs as an expense reduction that results in profits increases. We, as Managers and Owners are trained to think this way. You should only add necessary employees who are absolutely required to run the business. If you add too much labor, profit suffers.

We categorically believe administering labor as an expense is wrong, especially in the lower-middle market. When administered correctly, we view labor as an investment, not an expense.

When is Labor Actually an Expense

The key words in the opening paragraph are “when administered correctly.” The truth is that the majority of the time, labor is not administered correctly. Employees are often added as band-aid fixes to resolve immediate problems.

Band-aid Labor Fix Examples:

• A business needs additional sales in a certain market or product category, add a Sales Rep

• A Sales Rep is doing too much administrative work and not enough selling, add an Administrative Assistant

• There is too much work in HR to manage benefits, add a Benefits Manager.

Over time, the band-aid fixes add up. As you approach a middle-market sized company, labor has all of the sudden ballooned because of the compounded band-aid fixes. Executive Management or the Owner scratches their head and asks, “how did we get here? Why are our labor costs as a percentage of revenue up significantly from two years ago?” Executive Management then pushes for layoffs to bring profits back in line. Employees who came on-board to support the company’s mission are now left in the dust, looking for a new job, wondering what happened, and if it was something they did wrong.

Was it the employees fault? No!!! Of course not. Layoffs are a symptom, not a root cause. 90% of the time, layoffs are caused by management’s lack of a strategic plan or not understanding their business. Another frequent cause of layoffs is management’s indecisiveness. We call this lack of confidence or washy-washy mentality. When you see frequent layoffs or high turnover, it’s nearly always a leadership issue.

As a business owner or executive in the lower-middle market, how do you transition to thinking of labor as investment?

You are an Operator and not an Employee

The first step, you must think of yourself as Operator and not an employee. If you are the sole executive within your business or even if you have a limited executive team, you are limiting your ability to grow. Why? Because you are working in the business and not using your time to think strategically. We’ve seen this too many times with great companies. Owners of home services companies driving around all day to make sure their crews are doing jobs correctly. Owners of Accounting Firms billing over 2,000 hours a year. Owners of distribution companies working on the floor ensuring orders get out for the day. These examples are all important tasks, but they have consumed your time. You try to put together a business plan after dinner, but alas, you are exhausted and the business plan never materializes. You have confined yourself to being an employee, not an Operator. You have wasted your most valuable asset, time.

So, how do you move from an employee to an Operator? We speak with many Owners and first question is, “I’ve looked at the P&L. How do I pay myself a salary and also hire a General Manager? There just isn’t enough cash to do both?” This is where the investment comes in. You must be able to invest in yourself. The most logical way to make the investment is through foregoing your salary. If foregoing your salary is simply not an option, other options could be taking on an investor or bridging the cash, utilizing a debt instrument.

Why is taking on a General Manager considered to be an investment? There are a couple of reasons. First, hiring a General Manager is the first step to eliminating your Key Man risk, the number one deal killer. Second, hiring a General Manager allows you to free up your time and focus on scaling your business. As you re-focus on growing the business and as revenue grows, profit will begin to re-populate within the P&L and you will have the opportunity to pay yourself a salary or dividend again.

As you continue to invest in your team, you need to hire and surrounding yourself with a smart team. A team that is smarter and more capable than you. Hire the best you can. Start with either Head of Sales or a General Manager and build out your Executive Team from there. What will you do from here? Now, it’s your responsibility to lead your Executive Team and ensure they are headed in the right direction. You work with your Executive Team and Board of Directors to build a strategic plan.

How to Invest in Labor Through Strategic Planning

The most important thing to investing in employees is building a strategic plan. As we mentioned earlier, all too often, employees are hiring as band-aid fixes. Instead, employees should be hired through a strategic plan.

A strategic plan is your business plan that demonstrates how you will grow your business over a specific time horizon. It is you and your team’s vision over the next one to three to five years. The strategic plan sets the tone for the business, so everyone is on the same page. Once the strategic plan is in place, budgets can be drawn up, objectives can be set, KPI’s can be given goals, and employees can be hired to support initiatives. In fact, the strategic plan should outline the specific areas you should invest in employees, the roles you want to hire for, milestones needed to trigger hires, and the justification of why you want to hire for the roles.

While you might say, isn't a strategic plan a lot for a small business, we would say, if you want to grow as a business, you need to get out of the small business mentality. You’ll be ahead of 99% of the small business out there. And, you want to the know the best part, the valuation of your company will be that much higher. Why? Because any future Owner or Investor will be able to envision themselves focusing on growing the business, not fixing it up or worrying about risks. It’s the type of business that transacts in off-market deals, not public deals listed on public deal pages.

Conclusion

An investment in employees first begins with you investing in yourself and allowing you to work on the business. From there, hire the best and brightest Executive Team you can. An Executive team that can make you better and push you to grow your skill set. From there, a strategic plan to document where you are investing in labor. Developing a strategic plan will move you away from band-aid fixes and to smart thoughtful hires. And best of all, your business will grow, you will generate more profit, and the valuation of your business will increase. This is how to grow a business, by investing your employees, rather than viewing labor as an expense item.