Operating Expenses

Operating Expenses is a type of expenditure that business incurs as a result of performing its normal business operations. These expenses are usually subdivided into selling, administrative and general expenses, however they may not be directly associated with production. In business, an operating expense is a day-to- day expense such as sales and administration or research and development as opposed to production, costs and pricing. Operating expenses include depreciation of plants and machinery which are used in the production process.

On an income statement, “operating expenses” is the sum of a businesses operating expenses for a period of time, such as a month or year. One of the typical responsibilities that management must contend with is determining how low operating expenses can be reduced without significantly affecting the firm’s ability to compete with its competitors.

In a real estate context, operating expenses include cost associated with the operation and maintenance of an income- producing property. Operating expenses include accounting expenses, license fees, and maintenance repairs, such as snow removal, trash removal, and janitorial service, pest control and lawn care, advertising, office expenses, supplies, attorney fees and legal fees, utilities such as telephone, insurance, property management, including a resident manager, property taxes, travel and vehicle expenses, leasing commissions, salary and wages and raw materials.

Calculation of Operating Expenses

Companies prepare income statements at the end of each period, those typically separate operating expenses from other expenses such as manufacturing expenses. An income statement show’s a company’s revenues, expenses and profits. To calculate operating expenses for an income statement, the company’s general ledger accounting records are needed.

A short description of the 5 steps for calculating operating expenses include: gathering the general ledger accounting records, finding the expense section in the ledger, investigating the expense accounts listed, determining the operational expenses and adding all expenses after thorough analysis. Each expense that fits into these categories is written down and added up.

Operating Expense Ratio

The Operating expense ratio also known as the OER is the ratio between the total operating expenses and the effective gross income for an income producing property. The effective gross income for a property is the actual yearly gross income from all sources. The OER shows the percentage of a property’s income that is being used to pay maintenance and operational expenses.

Operating Expense Ratio= Operating expenses/ Effective Gross Income. The OER is an indicator of how efficiently a property is being managed. The lower the Operating expense ratio, the greater the profit of the investor.

Questions:

• What is operating expenses?
• What is a Operating expense ratio?