Subcontractors are an excellent way to borrow the expertise needed to complete work you don’t have people in your employ who can perform. They are also an excellent way to augment your workforce when you have more work than your people can perform, and when you are through that peak output period, you can avoid laying off employees because you got through the peak period with borrowed talent.
Overview
A subcontractor is an individual or company not in your direct employ who you hire to complete a specific task or project tied to helping you deliver your products or services. A subcontractor’s work is usually overseen by a member of your operations management team to ensure that it’s executed and completed as specified.
The most common use of this expense category is for work requiring seldom-used skill sets that you should only pay for when needed. Other common uses for subcontractors are for labor augmentation during peak sales cycles and for any recurring work that you don’t want to take on the risk and liability of doing yourself.
Direct subcontractor or temporary employee costs are directly attributed to operations supporting future sales. If these costs can’t be attributed to a job, a product, or a service, they should be included in SG&A or indirect expenses.
When accessing your subcontractor expenses, the key management consideration is to look at their percent of Net Sales relative to direct wages. If both are increasing faster than sales, you have labor productivity issues. This frequent problem leads to most businesses making less money than they should because operations management isn’t managing the labor inputs into your Cost of Goods Sold cost-effectively.
Correct this by having clear budgets for both Direct Wages and Subcontractors that you hold operations management accountable for staying within the planned budgets. When actual-to-plan varries your business is telling you labor costs are too high and if not correct your will miss your Gross Profit plan.