Have you heard about the “busy fools” in the business world? These are the enterprises that are frantically busy, working all hours driving their revenue figures up without focusing on profit. Turnover really is vanity and profit is sanity – how do you measure your profit?
Do you understand your profits?
There are three different kinds of profit that you should be aware of when you run a business. Understanding the difference helps you make better decisions.
1. Gross profit
Simply put this is the money that is left when you look at the income you get by selling physical goods minus the cost of sales.
The business’s income minus the outgoings for particular goods provides the gross income.
For a business that has multiple products it makes sense to understand the gross profit for each element of the business.
2. Operating profit
For an understanding of how profitable your business is on a day-to-day basis is why you use operating profit. Where gross profit shows the difference between buying and selling costs the operating profit takes the total income received subtracting cost of sales and all other administrative costs. The operating profit doesn’t take into account the money entering or leaving a business through taxes and interest payments.
To work it out take the total income received, minus the cost of sales, then all other administrative costs associated with the business and you have the operating profit.
3. Net profit
Net profit is basically the bottom line: a business’s total income minus its total day-to-day running costs. Some businesses include tax and interest with their costs when calculating net profit; others don’t. If you’re not sure what the best formula is for your business, speak to your accountant for advice.
If your net profit figure is negative you are making a loss! What should you focus on?
What is your breakeven point?
Understanding the amount your business needs to make in sales to cover the running costs gives you the breakeven point. Obviously you need to understand the gross profit to calculate the level of sales needed.
If the opportunity to increase sales doesn’t exist then you will need to look at where the money is going out of the business. By reducing the costs you can bring your breakeven point down.
For some businesses these calculations are really simple, for others the complexity of the business makes it less easy. Working effectively with a focus on profit is where senior financial support pays for itself.
If you would like to understand your profits more give us a call on 01473 599090