How to Figure Your Business’s Labor Percentage

Labor percentage helps businesses understand the proportion of resources dedicated to their workforce and how much of their financial output is allocated to employees. Understanding this percentage allows business owners and managers to gauge the efficiency of their labor costs relative to overall financial performance. This guide details the necessary components and the mathematical steps involved.

Defining Labor Costs

Accurately identifying all components of labor costs is the foundational step in determining a business’s labor percentage. Labor costs encompass more than just an employee’s gross wages or salary. They include all direct and indirect expenses a business incurs to employ its workforce. These expenses contribute to the overall cost of operations and must be accounted for accurately.

Direct wages and salaries are the primary component, representing the fixed or hourly compensation paid to employees for their work. This includes regular pay for full-time, part-time, and temporary staff. Overtime pay, which is compensation for hours worked beyond the standard workweek, must also be included. Bonuses and commissions, paid for performance, also fall under direct labor costs.

Beyond direct compensation, businesses incur costs through employee benefits. These benefits can include employer-sponsored health insurance premiums, covering medical, dental, and vision plans. Contributions to retirement plans, such as 401(k) matching contributions, are also part of total labor costs. Other common benefits like paid time off, sick leave, and life insurance premiums add to the total cost of employing staff.

Payroll taxes constitute another mandatory component of labor costs that businesses must account for. These include the employer’s share of FICA (Federal Insurance Contributions Act) taxes, which fund Social Security and Medicare. Businesses also pay federal unemployment tax (FUTA) and state unemployment tax (SUTA), which contribute to unemployment insurance programs. Accurately capturing all these employer-borne expenses is essential for a precise labor cost figure.

Identifying the Calculation Basis

After tallying all labor-related expenses, the next step involves identifying the appropriate financial measure against which these costs will be compared. This comparative measure, often referred to as the denominator, provides context for the labor cost figure. Two common bases are used: total revenue and total operating expenses, or for some businesses, the cost of goods sold. Selecting the correct basis depends on the insights a business seeks.

Total revenue represents all income generated from the sale of goods or services. This figure includes gross sales, service fees, and other income from core business activities. Using total revenue as the basis helps illustrate how much of every dollar earned is allocated to labor. This approach is useful for assessing the efficiency of labor in generating income for the business.

Some businesses may choose to compare labor costs against total operating expenses. Operating expenses include all costs associated with running the business, such as rent, utilities, marketing, and administrative salaries, but exclude the direct costs of producing goods or services (Cost of Goods Sold). Using this basis can highlight how labor costs contribute to the operational overhead of the business. It offers a perspective on labor’s share within day-to-day expenditures.

For businesses that produce and sell physical goods, the cost of goods sold (COGS) can serve as a relevant calculation basis. COGS includes the direct costs for producing goods sold by a company. It includes the cost of raw materials, direct labor involved in production, and manufacturing overhead. Comparing labor costs to COGS is insightful for manufacturing or retail businesses, as it directly links labor to the core production activities.

Calculating Labor Percentage

With an understanding of what constitutes total labor costs and the available calculation bases, the next step is to perform the calculation. This process involves applying a mathematical formula. The labor percentage is expressed as a proportion of total labor costs relative to either total revenue or total operating expenses/Cost of Goods Sold, then multiplied by 100.

When comparing labor costs against total revenue, the formula is: (Total Labor Costs / Total Revenue) x 100. For example, if a business incurred $150,000 in total labor costs over a specific period and generated $500,000 in total revenue during that same period, the calculation would be ($150,000 / $500,000) x 100. This would result in a labor percentage of 30%. This indicates that for every dollar of revenue earned, 30 cents were spent on labor-related expenses.

If the chosen basis is total operating expenses or the cost of goods sold, the formula adapts accordingly: (Total Labor Costs / Total Operating Expenses or COGS) x 100. Consider a scenario where a business has $150,000 in total labor costs and $300,000 in total operating expenses. The calculation would be ($150,000 / $300,000) x 100, yielding a labor percentage of 50%. This demonstrates that half of the total operating expenses were attributed to labor.

These calculations should be performed over a consistent accounting period, such as a month, quarter, or year, for comparability. Businesses must ensure that both the numerator (total labor costs) and the denominator (total revenue, operating expenses, or COGS) correspond to the same defined period. The result provides a measure of labor’s financial proportion within the business’s chosen financial context.

Understanding Your Calculated Percentage

Once the labor percentage has been calculated, it represents a numerical relationship within the business’s financial structure. This percentage quantifies the proportion of either total revenue or total operating expenses that is directly allocated to the workforce. For instance, a labor percentage of 25% means that for every dollar of the chosen base (revenue or expenses), 25 cents were expended on labor-related costs.

The calculated percentage serves as a direct indicator of how much of a business’s financial output is absorbed by its labor force. If the percentage is derived using total revenue as the basis, it shows the share of each revenue dollar dedicated to labor. Conversely, if total operating expenses or the cost of goods sold is the denominator, the percentage illustrates labor’s contribution to the overall operational or production costs. This direct interpretation helps understand the numerical result.

The percentage summarizes the financial commitment to employees relative to a broader financial metric. It represents the business’s labor cost structure during the specific period analyzed.