Labor Cost as % of Revenue: Definition, Calculation, and Benchmarks

This metric shows how much of every dollar earned is spent on paying employees. Knowing it helps leaders control costs, improve efficiency, and benchmark performance against competitors. In this blog we explain what this metric is, how to calculate it, typical benchmarks, and ways to use it for smarter business decisions.

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Table of Contents

• What is Labor Cost as a Percent of Revenue
• Why Measure Labor Cost as a Percent of Revenue
• How to Calculate Labor Cost as a Percent of Revenue
• Benchmarks and Industry Standards
• Factors That Influence Labor Cost Percent
• How to Use This Metric for Strategic Decisions
• Common Mistakes and Misinterpretations
• Key Takeaways

What is Labor Cost as a Percent of Revenue

Labor cost as a percent of revenue tells you what portion of your total income goes to paying staff. It is calculated by dividing total labor costs by total revenue in the same period, then multiplying that figure by 100 to get a percentage.

Labor costs typically include wages, salaries, bonuses, benefits, and payroll taxes. Many professionals also refer to this as the “fully loaded cost.” Meanwhile, revenue refers to all the money that your business earns from selling its products or services.

For example, if a company spends $800,000 on labor and earns $2 million in revenue, the labor cost as a percent of revenue is 40%. This means two-fifths of the company’s earnings are used to pay employees.

Why Measure Labor Cost as a Percent of Revenue

Measuring labor cost as a percent of revenue is not just an accounting exercise. It gives leaders insight into organizational efficiency, profitability, and competitiveness. Companies with too high labor costs may struggle to generate profit. While companies with too low labor costs risk overloading staff and losing talent.

Questions often asked by business leaders include:

• What is a healthy labor cost percent?
• Is a higher ratio always bad?
• How does it affect staffing and operations?

This metric helps HR and finance teams work together to set budgets, forecast labor needs, and plan for growth. It is also a simple way to compare performance across departments or locations.

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How to Calculate Labor Cost as a Percent of Revenue

Calculating labor cost as a percent of revenue is simple, but requires attention to detail. Here are the four steps to calculate it:

1. Add up all labor costs including salaries, wages, bonuses, benefits, and payroll taxes. Note: this requires access to the internal finance system and employee database from your HRIS.
2. Determine total revenue for the same period - Again, this figure is sourced from the internal finance system (or just ask someone in the finance team)!
3. Divide total labor costs by total revenue
4. Multiply the result by 100 to arrive at a percentage

Here’s an example calculation:

• Total labor cost = $1.5 million
• Total revenue = $2.5 million
• 1,500,000 / 2,500,000 = 0.6
• 0.6 x 100 = 60% of revenue is labor cost

When you perform the calculation consider variations, such as including or excluding temporary staff, contractors, or overtime depending on your reporting needs. Always be consistent in your calculation to compare overtime, otherwise it can be misleading.

Benchmarks and Industry Standards

Labor cost as a percent of revenue varies widely by industry. Retail and hospitality often have higher labor costs while software or tech companies may have lower percentages. The company size and the location of the workforce also matter. Startups may show higher ratios because they invest heavily in talent early on. Meanwhile, larger established companies often optimize labor and achieve lower ratios. Always compare with peers in your industry to get meaningful insights.

For industry specific benchmarks, it is best to use a third-party benchmarking data provider, such as CompanySights. We have labor cost as a % of revenue (a.k.a. personnel costs as % of revenue) benchmarks for companies in 100+ industries - Click here to search benchmarks in your industry.

Factors That Influence Labor Cost Percent

Several factors can push labor cost up or down. We’ve split them as either internal or external:

Internal factors

• Productivity levels
• Employee mix of full-time vs. part-time
• Use of overtime or temporary staff

External factors

• Economic conditions like inflation or recession
• Minimum wage laws
• Industry labor shortages

Changes in work models such as remote or hybrid arrangements can also impact labor costs. For example, remote work may reduce facility costs but require higher technology spending, which can shift how labor cost appears in the calculation!

How to Use This Metric for Strategic Decisions

Labor cost as a percent of revenue is more than a number. It is a key metric that can guide workforce decision-making. Here are some of the ways that you can use it:

• Set budgets and forecast labor costs accurately
• Identify inefficiencies or high-cost areas in the business
• Compare departments or locations to allocate resources better
• Align HR, finance, and operations around growth objectives

For example, a company seeing rising labor costs may explore automation, retraining, or process improvements to maintain efficiency without reducing staff morale.

Common Mistakes and Misinterpretations

For all of the benefits that come from tracking this metric, many businesses accidentally misuse it. Common mistakes include:

• Focusing solely on the percentage without specific context to their business (e.g. they are in a labor-intensive industry)
• Comparing across industries that operate very differently
• Ignoring employee experience or quality of output
• Not tracking trends over time, or changing what is included / excluded in the labor cost figure

To avoid making these mistakes, it is important to interpret labor cost as a percent of revenue alongside other metrics like profit margins, revenue growth, and customer satisfaction.

Key Takeaways

Labor cost as a percent of revenue is a simple yet powerful metric. It helps businesses understand how much they spend on employees relative to earnings. Use it to plan budgets, make strategic staffing decisions, and benchmark performance. Then monitor it consistently, compare it with industry standards, and interpret it in context to make smarter business choices!

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