Zero based expenses - how to plan and manage
I help hotels manage their profits more efficiently and in the hospitality world, there are only two main cost types that need a system and a strategy to properly control them. The two culprits are payroll and expenses. In this piece, I am going to talk about expenses, namely a process for establishing and managing your expenses on an ongoing basis in real-time using a zero base.
Zero based expenses are nothing new. Here is the definition from Wikipedia. Zero-based budgeting originated in the 1970s. Many businesses will budget and plan out things to maintain financials. In the past, businesses would only look at specific things and would assume that everything is already in place and does not need to be double-checked. However, in zero-based budgeting, everything that is to be budgeted needs to be approved. Since zero-based budgeting requires approval for budgeting, this means that budgets are started from a zero-base, with a fresh decision on everything being made every year.
In hotels, we find the zero base very hard to establish but, in my experience, it’s just the opposite. It’s actually easy to find and define the detail but it competes with the other business constituents, the guests and the colleagues. Both of its competitors have voices and they can speak, so, unfortunately, the expenses in many instances take a perpetual back seat. What this means is hotels operate without a concrete plan when it comes to managing their expenses.
Oddly enough this is OK for most hotel managers, but owners have a very different view. Managers are interested in keeping things fluid and smooth. This means department managers can operate with a certain amount of flexibility and their spending reflects this. After all, the top line is coming in and we all know a certain amount of volume hides a multitude of sins. At least that’s the case until the customers slow down or, heaven forbid, the phone stops ringing. When it does or when the hotel chooses to make the effort to control their expenses the system they need to use is the tried and true Zero Base.
In order to establish a zero base, we need to do some homework – nothing too complicated but it requires a focus and some discipline. When this is required all too often the task of getting the detail is left to a Jr. somebody. This is a mistake. Teaching them the system once established is a good idea, but getting this process working and right requires the individual who can organize and allocate resources within their department and that means they need to be seasoned.
To establish the zero base, we need to create our list for each General Ledger account in complete detail. The best way to do this is to run the line by line from each account for the prior 12 months. Once we know the vendors we then pull the corresponding invoices and record the items purchased the quantities and the unit price. This is not rocket science, but there is no other way.
Once this is done you have your detail and now it’s time to plan. What are the parameters of your expense budget or historical cost for this expense line? From your research and your knowledge of how your department operates what do you need to include in your forecast? Make your plan and include all the items, the price, and the quantity. Taking into account the forecasted occupancy or cover counts for rooms or F&B, and for non-operating departments, it’s total revenue you want to measure your expenses against.
From the forecast of each line, we now have the departmental total expense forecast for the month in front of us. We submit the totals for each line to the finance leaders and they consolidate our data with all the other departments. When this is done it’s inevitably too many dollars of expense and this is the pivot point and the most important part of the exercise so far.
You may be asked to reduce your department’s expenses by a dollar value – say a $5,000 reduction is requested. Now you have a list to look at and you get to decide what you can live without next month. Remove these items from your forecast detail and retain a copy of what was axed.
Now you have the detail to support the forecasted dollars of expenses and it’s time to start ordering your supplies. This is another critical junction because we want to ensure our spending is in keeping with the revenue projections. In most hotels, we book a significant portion of our revenues in the room’s area “in the month – for the month.” We need to order in 1 or 2-week installments allowing the ability to reduce or even increase quantities needed based on the pickup. This is what we do the zero-based work for, the ability to flex our spending based on revenues, allowing our department to manage its flow thru.
If the forecast was for 75% occupancy and a rate of $150 and the projection on the 15th of the month is 70% and $145, I need to adjust my ordering and expenses to compensate for the drop in revenues. If I don’t have my detailed list, I’m sunk and I have no way of knowing what to trim.
I have a section in my workshops where we discuss zero-based expense planning and I explain it like a household grocery shopping experiment. It goes like this. If I send you to the store with $200 and ask you to buy some groceries, you will spend the $200 and come home with lots of interesting things. On the other hand, if I send you to the store with the same cash and a shopping list you will come home with what’s on the list. Now the pivot. I only have $180 this week, so I send you to the store with the same list and I ask you to decide what we can live without this week. Now we have a chance to get what we really need for groceries given our revised forecast. Your hotel departmental expenses control and your zero-based system are the same.
It’s not rocket science it’s just being organized and having a list. With that list, you’re going to know what you need, what to order and if need be, what to trim. Without it, you’re sunk.
David Lund – the hotel Financial Coach.
Contact David at (415) 696-9593
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