O.K., It's a Three-Edged Sword...

Maybe the tax authorities don't see them that way, but thinking of employees as a Capital Expenditure will serve you well.

By Anthony Noel

We're about midway through our "Fatal Mistakes" series, having already looked at the main operational areas of Communications and Costs, and the "diseases" which can cause a company undue pain and suffering, if not a premature demise.

We began considering Capital Expenditures last time. We'll close out that topic this month then move on to Marketing and, finally, Overall Management Approach.

Last month, we noted how the subtle but important distinctions between Fear and Prudence, Desire and Need, and Cheapness and Commitment impact the decision-making process when it comes to big purchases.

In strict tax-code terms, Capital Expenditures are purchases that will benefit the company over several years' time. Generally, this means items like real estate, equipment, additions or improvements to your building and the like.

Because of their big numbers and/or long-term benefits, taxing authorities won't allow you to deduct the costs of Capital Expenditures in a single tax year; you must instead depreciate them, spreading their value across several years, so you don't gain an unfair tax advantage in the year of their purchase.

From a management perspective, however, it is often smart to think of Capital Expenditures as any item you're spending a lot of money on ~ money that is outside the realm of direct costs on a particular job. Nowhere is this mindset more beneficial than when it comes to employees.

One of the most time- (and therefore money-) consuming operations any business undertakes is that of interviewing, hiring and training new employees. In a strict tax sense, employee expenses are fully deductible within the current year, meaning they are not even close to resembling a Capital Expenditure. But there's a strong case to be made for viewing them that way from a management standpoint.

Just like real estate or equipment or improvements to your shop, employees are an investment. As a manager, you need to think of them as such. One very practical reason is that if you don't, it might just make you crazy.

Every employee has a learning curve. Without a healthy attitude about being an employer, some will just plain drive you around the bend. But an even better reason to consider employees as a capital investment is to provide you with suitable pause - or urgency - when deciding whether to add them.

Regular readers know that one of my favorite management books is "Up the Organization" by Robert Townsend. It should be required reading for every business owner and manager, period.

In stark contrast to many of the management theories and practices proffered by today's management gurus, Townsend's treatise, while based on his experience in large companies, offers gems of wisdom that apply to any company, large or microscopic, in any industry.

His take on staffing is simple: If there's overlap between the jobs of any two people, you're overstaffed.

In terms of knowing when it's time to add an employee, I'd encourage you to try this approach: Don't hire anybody until your current staff is so consistently overworked that they will be truly relieved to learn that help is on the way.

Both of these rules of thumb can guide you in avoiding the "third edge" of the Capital Expenditures sword: Growing for growth's sake. Of all the Fatal Mistakes any owner or manager can make, I believe growing for growth's sake to be the most deadly. The financial risk involved is so great - making failure, in turn, almost certain death.

Think about it: Real Estate. Vehicles. Major Equipment. Employees (and the benefits and tax expenses they bring with them). A small company simply cannot afford to add any of these things in anticipation of needing them. On the contrary, they can and should only be added when the need is certain, the demand is demonstrable, and the investment will, beyond any shadow of a doubt, increase profitability, efficiency, or quality. Or better yet, all three.

Though I've occasionally recommended management books, it's important to note that, in more than 10 years of writing this column, the titles can be counted on three fingers.

Conversely, the number of owners and managers I've worked with who seem to read every management book that comes down the pike is scary. Though their intentions are good, they make two mistakes. First, they think what works for the IBMs and Microsofts of the world is transferable to our industry. Some of it is; a lot of it isn't.

Second, rather than simply applying the aspects that are viable and leading by example, they try to get their employees excited about these often-confusing management philosophies. Ain't gonna happen. I know because early in my career, I made the same mistakes. But I learned from them, and you can too.

No employee is ever going to care as much about your company's success as you, the owner, do. So trying to get them to care about, let alone embrace, a management philosophy is a colossal waste of time.

Understand that hiring people, difficult as it is, is the easy part. Training them and keeping them busy ~ those are the real challenges.

Don't expose yourself to those challenges until you are so starved for help that you have no alternative. Never hire people - or buy real estate, vehicles or equipment - just to look like you're growing or to satisfy some foggy image of what your business "should" be, no matter how much money you may have behind you. In the end, you still have to fill that shop with work.

In business, there are exceptions to nearly every rule. But not to this one: It is always more sensible to let demand dictate growth than to bear the fiscal and mental burdens of excess capacity and capital investment.

How do you increase demand? Some clues next month when we consider the necessity of marketing your business consistently and persistently.


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