What are Operating Expenses? What they are and What Qualifies

what are operating expenses

If you’re looking for the definition of operating expenses as well as a comparison of what qualifies versus what doesn’t, then you’re in the right place. Operating expenses are one of the most difficult things for entrepreneurs to decipher, but it can also be detrimental to a business if you categorize too many things as operating expenses that shouldn’t be considered that way.

My Experience

My husband and I started two businesses that I’ve grown to generate a full-time income or more. I remember starting each business there were so many things vying for our money. Salespeople would say “this will make your business grow” or “your business can’t grow without that”, and it’s confusing to decide what are operating expenses in terms of definition and application.

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What are Operating Expenses? | The Definition

Like you, I went online to look for definitions of operating expenses and saw a laundry list of responses that looks like this…The Google search results for 'what are operating expenses?'

Years back, when I was starting my business, the results may have been different, but the general answers were the same. They give the textbook definition of operating expenses with an explanation of how it applies to companies much more established than mine.

As a result, I was still left confused. I want to break down the definition and talk about how it applies to you.

The Definition of Operating Expenses

Investopedia defines operating expenses as:

An operating expense is an expense a business incurs through its normal business operations. Often abbreviated as OPEX, operating expenses include rent, equipment, inventory costs, marketing, payroll, insurance, and funds allocated for research and development. One of the typical responsibilities that management must contend with is determining how to reduce operating expenses without significantly affecting a firm’s ability to compete with its competitors.

How it Applies to You

So, in summary, operating expenses are like normal household expenses. You know most people really won’t want to run a household without:

  • Water
  • Electricity
  • Rent/mortgage
  • Recreation
  • Maintenance
  • Food
  • Clothes
  • and Transportation

an image of a woman counting moneyDepending on your goals, your “normal household expenses” could be higher or lower. Similarly, operating expenses are those things you can’t operate the business without, and it can range based on what type of business you have, what types of tools, supplies, and labor you need to perform, how many people you help, how large the business is, how many people you plan to help, and how large you want to scale the business.

As you help more people, the operating expenses typically correlate. Marketing expenses go up, accounting tools get more expensive (because you’re doing more accounts payable and accounts receivable), and so on. Hopefully, you understand what I mean so far (if not, please leave a comment or get started with 7 days of free coaching to ask me about it).

Calculating Your Operating Expenses and Shiny Object Syndrome

One even more unfortunate thing I’ve seen and experienced when I wasn’t sure of what my operating expenses were is getting sucked into “shiny object syndrome”, and I’ve seen many entrepreneurs (in various stages of business growth) who also get stuck in shiny object syndrome as well.

When you go into a new industry or decide to scale up, you enter unfamiliar territory. You may not know what tools, resources, skills, or education is required to pursue the new venture, and it becomes difficult to find trustworthy people to direct you.

In these times, many entrepreneurs find themselves saying, “Maybe I’ll just try this to see if it will work for me”, and if they’re not careful, they can go into a spiral of experimental spending or “shiny object syndrome”.

Top Costs that Make Operating Expenses More than What they Should Be

According to Entreprener.com, there are some things that are common wastes of money. The bad thing is many entrepreneurs categorize them as “operating expenses” because they don’t realize they’re unnecessary. Some examples of things like that includes:

An image of a person with an expensive carExpensive clothes, cars, and accessories

Many entrepreneurs go overboard taking money from their businesses and trying to make an impression. While clothes, cars, and accessories can be operating expenses, it’s still important to prioritize operating expenses with a direct return on investment above “wants” or fancy extras.

Office spaces (especially fancy ones)

Nowadays office spaces aren’t required for every business model. For example, businesses like bookkeeping businesses or media companies have internet alternatives that make it where many of them no longer NEED office space to accommodate their operations.

Added to that, the ones that do need office space might go overboard in the amenities and quality standard they chose to pay for when considering their sales volume and product/service price. As a result, they could wind up paying for fancy office setups, and not having profit, or even worse, being bankrupt.

Unnecessary staffing or premature staffing

The entrepreneurs who stick it out and get to the point where they have a modest demand for their products and services, often find themselves wanting to outsource.

With all of the books out there like 4-Hour Work Week and others, outsourcing has become a “popular thing to do”. Unfortunately, sometimes it’s taken out of context, and people are outsourcing to abdicate tasks, not prepared for leadership, or they haven’t proven there’s a demand in the market for what they do.

Even worse, they may “pay themselves” too early or pay themselves too much and not leave enough room to reinvest, scale, grow, or sustain the business. I’ve been tempted to do this too. I’m sure we are all tempted to do this at some point, however, if we pay ourselves too much or too early, we will deplete the business, and stunt the growth and limit the ability to scale.

On the other hand, more established businesses who struggle with inflated labor costs often keep people on the payroll too long. They get emotionally attached to people, and don’t want to let them go even when they’re not performing to standard.

Nonmeasurable Outreach Efforts

Buying followers, buying email lists, signing up for marketing software with big promises, learning marketing tactics that promise quick exposure or unsubstantiated returns, and paying to reach customers in ways you can’t quantify are all “operating expenses” that can be cut.

Outreach efforts should be substantiated by more sales, more brand awareness, or the achievement of a goal you’ve intended to achieve.an image of a woman spending money

Experimental spending

Experimental spending is any time you spend money without the highest possible probability what you’re spending on will work. Many of us (entrepreneurs) get in the habit of saying, “Well, let’s just try it”, and buying “to see if it works”. In order to grow and get into new territories, you have to try new things, but you don’t want to monopolize you’re spending with things you can’t prove have a high probability of bringing your money back (especially if you’re working with a very tight budget).

Needs vs. Wants and Prioritization

In keeping with our discussion on experimental spending, it’s also very easy to lose self-discipline and abandon ever telling yourself “no” when you see something you want–this is a major trap and can stunt the growth of your business. You have to categorize the expenses you really couldn’t operate without and stay aware of the needs versus the things you’ve allowed yourself to “splurge” on–that way if sales volume goes down, you decide to run a sale, or other things happen that damages the cashflow of the business, you know what costs can be eliminated to enable to business to thrive anyway.

Scams

Many entrepreneurs run into vendors and companies who make promises about delivering a product or service, but they don’t uphold their promises. Some are “get rich quick schemes”, fraud, people who product low quality, or downright unethical scamsters. These things are only preventable by doing your due diligence, researching carefully, not rushing into decisions, and getting recommendations from people who are really trustworthy.

Final Words answering “What are Operating Expenses?”

The goal of this article was to define operating expenses and help you to have clarity on what qualifies and what doesn’t. Confusion about operating costs can be eliminated by having good mentorship, having access to a great community, and by having places you can go to ask questions and get the answers and support you need. The #1 place I recommend for entrepreneurs to get support with identifying appropriate operating expenses, networking with other entrepreneurs, and getting the support they need is in my training, community, and coaching program. Try 7 days of private message coaching and training free, and see if it can be helpful for your business growth!

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4 thoughts on “What are Operating Expenses? What they are and What Qualifies”

  1. I strongly believe that as an entrepreneur or small business owner, one must be able to control their operating expenses in an efficient manner! This is not something you do it once, but rather it is a daily task that you need to always keep an eye with! Without proper monitoring on the daily operating cost, a business may come to the extent of not making any money! I think your article is somehow gonna help up a lot of people. it is a reminder to all! thanks

    1. Tiffany Domena

      Thanks so much Jeff for your contribution here! I agree that monitoring operating expenses is a daily task, and as the business grows, it becomes even more frequent than that, which is why larger companies have staffs of Finance professionals and accountants. We have to be very careful with this and I’m hoping this article will help bring more awareness.

  2. Interesting Tiffany, 

    Guess I got confused with the necessary ones, I put my operating expense together with transportation together with the cost of my new car within the company’s budget.  What about motivation costs? Some of my friends get cigarettes provided by their company as motivation cost so I’m pretty curious if this is normal for corporate companies too since they have more staff.

    1. Tiffany Domena

      Hahaha. I haven’t heard of “motivation costs”, but I know companies do varying things for employee morale. Many companies keep budgets of varying sizes for morale. 

      When I was in the military, we did quite a bit for morale and operating expenses were based on government budget allocations. We were able to have clothing allowance, food allowance, housing allowance, morale parties, lots of nice benefits, and more, but when the economy shifted, some things would get eliminated. 

      Operating expenses change and they’re relative.

      It’s subjective. If your sales volume and price can make up for the higher operating costs and still leave room for operating and profit, then you can have more flexibility. The problem is when operating expenses are high, sales volume isn’t high enough, and price isn’t high enough–then you could have piling debt (for those who try to use external funding to make up for it), potentially legal bankruptcy or dissolution.

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