Timothy E. Brown, CPA
Profit Margins: What Does This Mean?
During these times of uncertainty, you must know where your business stands financially—having a clear understanding of where your business stands can help you better pivot and make decisions around all aspects of your business. One important measurement that you should be evaluating is Profit Margins.
When evaluating profits alone, they aren’t always a key indicator of how your business is performing. As stated by Accounting Department.com, “The more a company spends to generate a designated profit, the more vulnerable it is to minor cost shifts, which could quickly put it out of business.”
Profit Margins Can Provide a More Realistic Perspective
While profits are measured in dollars, the profit margin is measured as a percentage, or ratio, specifically, the ratio between net income (profit) and total sales.
Continuing the example above, Company A has $100,000 in net revenue and generates $1 million in total sales, so its profit margin is 100,000/1,000,000 or 10 percent. Company B also generates $100,000 in net revenue, but its total sales are $500,000, making the profit margin 20% (100,000/500,000). The two companies have the same amount of profit, but Company B is twice as profitable as Company A.
Profit Margins can be increased by Increasing the price you charge for your products and services, after careful analysis of the impact of those increased prices on consumer behavior and total sales. As a business owner, you can also control costs. Controlling costs would involve evaluating your costs of resources you use to make your business run, such as products and services, outsourced labor, and supplies. Taking a close look at your list of expenses during this time can support your efforts in improving your profitability strategy. A few expenses to look at are:
-Labor that could be performed internally
-Meals & Entertainment
-Allocation of Advertising Budgets
In conclusion, no single strategy is likely to increase a company’s profitability or prospects for long-term success. The most successful companies carefully analyze consumer behavior to determine the best price to charge for products while simultaneously researching a range of fixed cost-cutting strategies. If you would like to develop or revisit your profitability strategy, book your consultation at www.tebcpa.com
Data Source: https://www.accountingdepartment.com/blog/profits-vs.-profitability-why-you-need-to-track-profit-margins