Small and medium business owners have a lot on their plates. Not only do they need to worry about the day-to-day operations of their businesses, but they also need to keep an eye on financial indicators to ensure that their businesses are healthy. One of the most important financial indicators is your income statement. We’ll also provide tips on how to improve these metrics. So, keep reading if you’re looking for ways to enhance your business’s bottom line!
Gross Profit Margin
How to Calculate it
Gross Profit Margin = (Revenue – Cost of Sales) / Revenue * 100
Gross profit margin is an essential measure for measuring product/service profitability. The cost of goods sold includes direct expenses like production costs, but it does not include other factors such as operating or interest payments–allowing you to see how much money comes back after these things are taken out to create a more accurate picture about whether your company will be profitable at the end of its latest fiscal year’s ending date.
In short, gross profit margin measures the percentage of revenue after deducting all direct expense items from sales.
Pro Tip: If you are in the service industry, your income statement might not be optimized to show the direct expenses. If you want to know how to properly structure your income statement, click here to read how or contact me for a free consultation.
What is a good gross profit margin?
This depends on the industry, but as a general rule of thumb, a gross profit margin of 10% or higher is considered good, while a margin below 5% is cause for concern. However, it’s essential to remember that different industries have different norms. For example, a gross profit margin of 20% or higher in the retail industry is considered excellent.
How to improve your gross profit margin?
There are a few ways that you can improve your gross profit margin. One way is to increase your prices. Another way is to decrease your cost of goods/services sold. However, this isn’t always possible or desirable.
Net Profit Margin
How to calculate it.
Net Profit Margin = Net Profit / Revenue * 100
Net profit margin is the most critical measure of profitability for any business. This percentage measures what share, after deducting all costs to generate revenue and other income like taxes or interest payments, remains in your pocket as cash flow from operations — it’s called “net” because you take into account everything that comes into a company without leaving anything out on Purpose Twisting The Knife Into A suggests net profits versus gross combined ones which focus only on items such sales returns, etc., so this way we can see how much money came directly back towards us. The higher this percentage, the more cash flow, and profits you bring in.
What is a good net profit margin?
This again depends on the industry that you’re in. For example, a net profit margin of 5% or higher is considered excellent for a retail business, while a net profit margin of 10% or higher is considered excellent for a manufacturing business.
How to improve your net profit margin?
There are a few ways that you can improve your net profit margin. One way is to increase your prices. Another way is to decrease your costs. Yet another way is to increase your sales. However, combining all three is the most effective way to improve your net profit margin.
Budgets
Budgets are essential for anyone who wants to run a successful business. A budget is just an estimation of revenue and expenses over the next few months, but it’s important that you reevaluate your numbers periodically because things change!
Budgets are as much an art form as a science, and as you keep doing this, you will get better at it.
Accounting software like Quick Books provides very good budgeting tools if you have never done a business budget forecast. If you are unsure how to use it, please contact me. I will be happy to help.
Here is a quick and dirty way to look at your budgets.
Gross profit margins: Find the ideal margin for your industry and compare your business against the industry standard. If it’s below the industry standard, follow the suggestions above to correct the problem.
Net profit margin: Again, see if you can determine your industry standard and compare your business against it. As a rule of thumb, anything below 10% warrants some attention.
Pro Tip: Another way to look at your budget is to divide your total expenses by your total revenue and multiply it by 100 to get a percentage. If you operate in a capital-intensive industry like the trucking industry, where you will have substantial capital expenditures, this percentage needs to be lower. Why? Because when you make these capital purchases, it’s done with the after-tax dollars, service industries typically see a higher expense-to-income ratio as they don’t need to make heavy capital expenditures.
The Bottom Line
These three points/KPIs are helpful for business owners to track their company’s income and expenses at a glance and make changes in their budget if needed. Please contact me for a free consultation if you want more information about these ratios or need help calculating them. I would be happy to help you improve your business’s bottom line.
