We all know that for any business to make an income it has to make Sales.
Many business owners closely monitor the sales, compare them to previous months, previous years and, if they can get hold of the information, other businesses.
But this isn’t the only thing to monitor. You have to make sure that out of those sales proceeds you can pay all of the costs of the business and have some left over for the business to make a profit.
And as the above picture shows the amount left over can end up being only a small percentage of the sale value.
Firstly you deduct Direct costs, the costs that if you didn’t sell that product or service you wouldn’t have to pay. This leaves your Gross profit. This is a much better value to monitor closely.
And you need to do so product by product, or service by service.
You may have an overall Gross Profit but it’s hiding the fact that you sell product A at a good margin, but product B at a loss. Reducing your overall gross profit. And it may even be that Product B is a higher dollar amount so you concentrate on pushing these sales, but there is very little point in selling something for less than it cost you to get to the point of sale.
The only time a business can justify this if it’s doing it intentionally as a loss leader. A marketing ploy to get customers to come in and buy other things as well.
Then, the total Gross Profit must be enough to cover all your overheads. The costs that would continue even if you didn’t sell those particular products or services e.g. your occupation costs.
Anything left after that is your profit.
You can also turn this around the other way, from the profit you want to make, or even break-even point, you can add your overheads and margins and calculate how much sales you need to make to achieve this.