If one does not know to which port one is sailing, no wind is favorable.
— Seneca (Seneca the Elder)

One of the questions that entrepreneurs frequently ponder is whether the size of their labor force is proportionate with the amount of work that they have to do. Finding the right balance is critical. Clearly, every dollar that you save on labor costs goes right to the bottom line. However, a labor force that is too small affects customer service as well as the delivery of your firm’s products and services.

In my mind, one of the best ways to gauge the relative size and efficiency of your workforce is to look at revenue per employee (RPE). This method is not perfect, but it provides a good benchmark.

The owners of one firm we assist did this type of analysis and they were very surprised at the result. Certain customers they thought they were making a lot of money on were the exact customers they were loosing money on. Just because you have a large amount of sales from a customer and you “think” that you are making money on them, does not guarantee actual levels of profit. There are so many ways for profit to vary from your projected levels due to additional labor or materials that you had not factored in to your price.

So many firms just assume that their existing labor cost is fixed, and that it cannot be changed. One entrepreneur that we were assisting was experiencing a decline in sales. In response, he reduced his labor cost by 20% through attrition and layoffs. When sales returned to the original level, he was surprised that his newly downsized labor force was more than capable of handling this sales level. Before the sales fell, his RPE had been $70,000. After the reduction in labor force, his RPE jumped to $120,000.

Another firm that we were assisting was having profitability problems. They had a $100,000 RPE, and their total cost per employee was $50,000 with salary and benefits. The firm’s cost of goods sold was 40%, and overhead averaged 20%. For every $100,000 of income, $50,000 was going to labor, $40,000 to cost of goods sold and $20,000 to overhead. While the firm was bringing in $100,000 in revenue, its costs were $110,000. This was not a pretty picture.

In order to correct this problem, the firm had two options: either reduce its labor costs or expand its sales without expanding labor. Both are do-able, but painful.

When used as a benchmark for comparison, RPE provides a very effective means of ascertaining the ideal size of your labor force. The average RPE for all firms is around $150,000, but RPE varies depending on the industry. For instance, a labor-intensive industry like farming is going to have a very low RPE, whereas technology firms should have a very high RPE. In light of this variance, statistics are available by industry to aid in comparison. Additionally, if you are changing processes or technology, you ought to see these changes in improved RPE numbers.

Now go out and monitor your RPE on a monthly and yearly basis. Compare it against some benchmark to ensure that your labor force is not too small or too large.

You can do this!

Jerry Osteryoung is the Jim Moran Professor of Entrepreneurship in the College of Business at Florida State University. He is also the Director of the Entrepreneurship Program at FSU and Executive Director of the Jim Moran Institute of Global Entrepreneurship. He can be reached by e-mail at jostery@comcast.net or by phone at 850-644-3372.