Focusing on Profitability
Making a profit is the fundamental reason to exist for a business. It’s also a legal obligation – if you don’t make a profit, you’ll soon become insolvent and HMRC (and/or other creditors) will close you down. Making a profit, or at least positive cash flow, is also important to Not for Profit organisations – how else will they be able to expand and do more of what it is they’re set up to do?
Given this fundamental concept, way too many businesses are focused purely on turnover – profit is a pleasant (or unpleasant) surprise at the end of the year. Not for nothing does the saying Turnover is Vanity, Profit is Sanity exist.
For most businesses, profit can be analysed at 2 levels to give us a picture of how healthy the business operations are. Gross Profit is what’s left over after you’ve subtracted the specific costs of making and delivering a product or service from the income it generates. Operating Profit is what’s left after you further subtract all the costs associated with running the business (fixed cost or overhead) from your Gross Profit. This gives rise to two really useful percentages, Gross Margin and Operating Margin.
To be truly profitable, we need to analyse and work on both of these measures.
Don’t get me wrong, turnover is important but only as a critical mass to enable enough profit to be made. For example, a 99% margin sounds great, but if you only sell £100 worth of goods in a year, it’s probably not going to help you very much.
Profit (at both Gross and Operating levels) is also really important when it comes to valuing or selling your business. Most valuation methods work on a multiple of profit. If your underlying profit is close to zero, so will it be for your business valuation.
In our next article, we’ll look at profitability within your business and analysing your Gross Margin and Operating Margin percentages to improve your profit performance.
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We work with business owners and MD’s to help gain clarity on their profitability and more. If you’re struggling with where to start, why not schedule a conversation with us? It’s free and at the very least you’ll come away with a couple of ideas to help you move forward.
Alternatively come along to one of our upcoming business masterclasses – Upcoming Events
