calculating profit margin

Marcus Lemonis loves to remind business owners that “If you don’t know your numbers, you don’t know your business.” And those numbers he refers to include “margin” as in the profit margin, expressed as a percentage, on every product and service you sell. To make things a little more fun, for our conversation “margin” can be expressed after production costs (gross margin) and after operating costs (net margin). It’s important to recognize the difference to ensure we are looking at the right numbers to make decisions.

 

 

 

Profit Margin: Gross Margin

 

Gross Profit Margin is calculated by subtracting what it costs to produce something from how much it is sold for. For example, it costs you $5.00 to produce a widget (labor and all materials) and you sell it for $10.00. You have a 50% gross profit margin.  This is only half the story though because you have other business costs (operating costs) that also have to be paid from the gross profit.

 

To figure out our net profit we need to further subtract the operating costs from the item. If each $10.00 item actually incurs $1.00 of operating costs, the net profit isn’t $5.00, it’s $4.00.  That’s the number we want to work with for managing pricing and expenses. In our example, this $10.00 item has a 40% net profit margin.

 

Anything that affects that $4.00 net dollar amount affects the margin of the item. If costs go up or down, that $4.00 can get bigger or smaller. Let’s say that materials go up in cost $.50, so that costs are now, $5.50 to produce, the net margin goes down from $4.00 to $3.50. From 40% to 35%. Make sense?

 

 

 

 

If you don’t know your margins, you need to take a little time to figure them out. The amount of margin that’s considered “good” or “healthy” varies by industry. Restaurants typically have lower margins than retail and retail is typically lower than many service provider businesses. Online businesses have lower operating expenses and often higher margins than businesses with physical locations.

 

 

 

 

PROFIT MARGIN: WHAT AFFECTS IT?

 

This article is about the things that affect your margins, and margins can be the difference between struggling and thriving. And those things are many. Changes in any costs can affect your margins and require you to address your pricing to maintain your profits. Any cost. Utilities, service providers, suppliers, and other expenses can go up in cost at any time unless you are under a contract.

 

As margins go down, there is less and less money left over, and it can affect your growth and your ability to weather any unexpected events. This is why I encourage entrepreneurs to check their expenses through the Breakthrough Number process once a quarter. You can use these resources to figure yours.  Keeping your eyes on the margin can help you head off issues that can affect the health of your business. Set aside the time to learn your numbers.

 

 

 

AUTHOR’S NOTES:

If you want to walk through a step-by-step method to manage your margins, your income, and profitability, join me for the next Quarterly Intensive. Visit https://entremoneycoach.kartra.com/page/quarterlyintensive to learn more.

Talking to my third creative this week about profit. And again, it’s someone who is netting under $7.00 an hour. Not because they aren’t talented. Not because they aren’t absolutely excelling in their zone of genius, but because they don’t know their numbers, they don’t know where the profit is all leaking out, or they feel too guilty to charge more.

 

The truth is, we wouldn’t work for someone else for the rates that we pay ourselves. The days of “breaking even” need to be behind us, because you are worthy of earning an amazing paycheck and keeping profit in the business AFTER you get paid. Here’s a little primer on profit.

 

There are several ways to figure your profit margin, but without getting too “mathy” I want you to do two things really. Make sure you are not losing money. Add a little profit margin to your products and services if you don’t already.

 

Rule #1: Don’t Lose Money

 

The first rule of business. But it is easy to do. You can forget to figure in all of your costs. Perhaps we don’t account for all of our hours. Or, we offer “add ons” without considering what those bonuses cost our business. And we all do it. If you want to offer something for free and not recoup the cost, that’s fine. Or, if you want to offer something at less than cost, that’s fine. But, if you do it for everything in your business, it’s not a business. It’s an expensive hobby. And you will only get more and more frustrated as time goes on. Because you work so hard and make no money.

 

Here’s a simple way to figure your base costs. You can figure them by day, or by week, or by hour. To figure by week, take your total and divide by 4. To figure per day, divide by the number of days you are open (M-F is an average of 20 days/mo.) and by hour, first divide by day, then by the number of hours you are open.

 

  1. Add up all of your costs. Start with your Breakthrough Number, all four walls of your business (if you need to calculate your number, visit here). Don’t forget to add your other costs, such as, your marketing, debt payments, everything.

 

  1. Take that number and choose your frequency (week, day, hour) and divide. This is the base cost you have to stay open for the period of time you chose. For example:

 

My true costs are $3500.00/ month.

For weekly costs: Divide by 4- $875/ week

Daily costs to stay in business, divide by 20 (I am open 5 days a week): $175/day

Divide the daily number by the hours I am open (8): $22.00/ hour.

 

So, for this example, I need to make $22.00/ hour or $175/day or $875 week to not lose any money in my business.

 

Rule #2: You Are in the Business to Make Profit.

 

You need to make more than the hypothetical $22.00/ hour example above to have any profit left over after all of your costs. How do we do this? First off, it is an average. You may have a day that makes more, and a day that makes less. You know your Breakthrough number (that’s the start) and all of your costs (that’s how we figured the base) now we look at your products and offers and add profit.

 

  1. If you are a service provider: add a profit line. You can add whatever feels right for you. Add 20%, 50%, 100%.

– Start from your offer. How many do you need to sell a day, week, month, at the current price point to get to profit?

– mix up your offers, how many of each do you need to sell?

– you can decide what offers get which profit margins, because they don’t all have to be equal. There’s no issue if you charge a 30% profit on one thing, and 10% on another. As long as you have a net profit margin when you look at them all together.

 

  1. If you have a product: add a profit line. You can add to every product evenly, or add to them individually, do what feels right.

– I see products from creatives often lose money, because you don’t charge to recoup the time it takes to manufacture things, like shirts, prints, jewelry, etc.

– Add a small percentage to your true wholesale costs, like 2-3% if you are worried about charging more.

– Add a flat fee for your time if you don’t already. $8.00/ item to manufacture or perhaps $100/ hour (divided by the number of things you make an hour.) to recoup the cost of your time.

– If you are a wholesaler or reseller, use a flat percentage if you want- and siphon it off as pure profit, not to be co-mingles with the other income for expenses.

– Again, your profit margins do not have to be equal across products, line of business, or offers. You can have a smaller number on bulk sales, higher on individual for example. As long as at the end of the day you have a positive profit margin.

 

You Don’t Have to Do the Math Alone. Grab a spot on my calendar for a free 30-minute support call, and let’s take a look at your numbers, and where your profit leaks are. Just visit https://dawnkennedy.as.me/support  to grab a spot on my calendar. I am passionate about seeing small businesses succeed and maintain profitability for the long term.