Measuring performance is essential if you want to grow your business, and profit margin is one of the most effective ways to gauge success. In this post, we’ll look at how gross profit margin can be used to improve your efficiency and increase your profitability.
What is Profit Margin?
Profit margin measures how well you use your earnings to pay for your costs. In other words, your profit margin shows how much of your earnings the business is able to keep. Tracking your profit margins regularly can give you a wealth of information. For example, are your margins larger during certain times of the year? Or during specific promotions?
Profit margin is also used by investors as they decide which companies to support. It’s a metric that can allow for easy comparisons, whether you’re trying to compare two companies with similar revenues or to compare one company’s performance year to year.
Sometimes people confuse profit margin with net profit. Your net profit is looking at the business as a whole and asking how much money you ended up with as a business, whereas your gross profit margin is how much money you have made per product line.
Gross Profit Margin (what did we make per product) and Net Profit Margin (as a business did we make/lose money)
These two profitability ratios, gross profit margin and net profit margin, can be used to assess a company’s overall financial health and stability.
Gross profit margin measures the percentage of revenue that exceeds the costs of goods and services, and the net profit margin is the ratio of a company’s net profits to its revenues. In this post, we’ll look specifically at gross profit margin and how you can manage and measure it to improve your company’s profitability.
Calculating Gross Profit Margin
You can calculate your company’s gross profit margin by subtracting the cost of goods sold (COGS) from total revenue. Then you divide that number by your total revenue.
Here’s an example. Let’s say your gross profit for last year was $285,400, and your total revenue was $620,000. We divide gross profit by total revenue to get 46%.
With your gross profit margin measured, you can start work toward improving it and tracking your progress.
It’s not difficult to calculate gross profit margin for other companies in your industry, and if you find that your profit margin is lacking, you can start looking for ways to make your processes more efficient.
For example, gross profit margins in the jewellery industry generally fall between 42 and 47 per cent. The calculation we performed above would show that the company is faring pretty well (at 46 per cent) but probably has some room for improvement.
Considerations for Improving Gross Profit Margin
If you discover that you have room for improvement, where do you start? What steps could you take to increase your company’s gross profit margin?
First of all, know that consistent gross profit margins over time are often a sign of stability in a business. Significant fluctuations could be an indicator that fraud, mismanagement or accounting irregularities are subverting stability and progress.
When you’re seeking improvement, think about making changes that will result in slow, steady progress.
Increase Your Prices
You may have an aversion to this strategy, but you may be able to improve your gross profit margin by raising your prices. While it’s true that you may lose a few customers, the increase in your margins might justify this strategy.
Review All of Your Pricing
If it has been a while since you last evaluated your pricing, take a close look at the numbers. If your supplies have become more expensive or your competitors are charging more now, your pricing may need an update.
Nothing can eat into profit margins like disappearing inventory. Whether stolen by customers or staff, theft is extremely costly. If you’re not balancing your tills or using anti-theft systems, consider how you might update your prevention.
Use Inventory Systems
Keeping seldom-sold items on hand when you’re struggling to keep popular items in your inventory can cause imbalances and problems for your bottom line. If you don’t have a satisfactory inventory system now, improve your efficiency by getting inventory under control.
Keep an Eye on Supplier Bills
Getting overcharged for supplies can seriously damage your bottom line. Mistakes happen and miscommunications occur. Watch your bills closely to improve your margins.
For more information about how you can manage and measure your gross profit margin, speak with one of our business experts at Altus Financial. We can assist you with every aspect of your business and help you to reach your goals.
As a Senior Client Adviser, I work with SMEs to build profitable, growing businesses.