Strategy

How to Lower Total Payroll Costs: Metric of the Month

Are there ways your organization could be saving money with better payroll processes and delivery models?
Vincent RyanDecember 6, 2021

Everything seems to be getting more expensive. From wages and fuel costs to lumber prices, office paper, and essential grocery store items, very few areas of the economy have been spared from rising costs. Now is the time for a financial examination of all your business processes to determine if there are opportunities for improvement which could lead to cost savings, big or small.

This month, we delve into the total cost of the payroll process as a percentage of revenue. The total cost of payroll is the sum of personnel, outsourcing, system, overhead, and other costs involved with the maintenance of payroll records; the calculation of salaries, wages, and deductions; and the distribution of paychecks.

APQC’s benchmarking data on this measure, to which over 700 companies have contributed, shows that companies in the 25th percentile spend .04% of their revenue on payroll. However, companies at the 75th percentile spend nearly three times more — .11% of revenue.

The difference between the 25th and 75th percentile doesn’t seem that large. However, applied to the scale of a large company, the differences come into sharper contrast. For example, a company in the 75th percentile with $1 billion of revenue will spend $700,000 more to process payroll than a company in the 25th percentile. For companies operating on razor-thin profit margins, this could mean the difference between finishing the fiscal year in the red rather than in the black.     

Think Holistically
If you’re looking to reduce the cost of payroll, begin by looking at systems, internal processes, and the delivery model. Improvements in these areas often drive substantive increases in efficiency and decreases in spending that add up quickly.

Systems
Have you performed due diligence of available payroll processing applications if the organization processes payroll in-house? The organization’s current payroll solution may have worked well when it had half the headcount, but the company may have outgrown the software’s capabilities and now requires a system that can better manage a larger company’s demands. An outdated system could be costing valuable time and money, while a more sophisticated system with automation tools could help drive down process costs.

Internal Processes
Even the newest and shiniest payroll technology cannot fix a broken process. For example, manual touchpoints like time-record completeness and manager approval are some of the most common reasons for delays. If employees and managers are not held accountable for timely entry and approval, those in charge of processing payroll will need to chase them down to get the data they need. Communicate clear expectations to employees and managers about when time-record submission and approval must begin and end.

Delivery Model
For some companies, maintaining a full in-house payroll department makes sense. For others,  outsourcing much of the payroll process is a better choice. Every organization will need to perform its analysis to reach a conclusion about the service delivery model that works best for them.

Each model brings risks and benefits. For example, outsourcing payroll takes the process off the plate of the finance team. However, the business is still responsible if the outsourcing company makes a mistake, acts irresponsibly with the data, or fails to transmit tax payments in a timely way. On the other hand, keeping payroll in-house means having tighter control of payroll processes and data, but it also requires adequate finance staff and expertise that may not be able to scale up as the company grows. More often than not, weighing the risks, costs, and benefits of each model will reveal one model to be more advantageous than the alternatives.

As costs continue to go up across the board, it is more important than ever to reduce the spend that can be controlled. The best companies take a holistic approach to performance improvement by looking across the systems, processes, and structures that come together to execute a process like payroll. This approach makes sense because process challenges — and opportunities for improvement — often exist in multiple areas at once. Considering them as an integrated system will help you think more strategically about where and how you can improve the process.

Perry D. Wiggins, CPA, is CFO, secretary, and treasurer for APQC, a nonprofit benchmarking and best practices research organization based in Houston.