How to increase your profit
For most small businesses, the easiest way to increase profitability is to reduce costs. Reducing direct costs can dramatically increase the profit on each sale, and eliminating unnecessary business overheads can have an immediate pleasing impact on your bottom line.
The best way to improve profitability is to increase turnover as there is no limit to sales but there is a limit on reducing your costs.
Reducing your costs
Identify the steps you can take to minimise your direct costs, such as negotiating lower prices with your suppliers, reviewing processes and systems to minimise wastage, and implementing additional security to reduce the chance of theft.
For example, the owner of one manufacturing business used the same supplier for 30 years, and never investigated buying raw materials from anyone else. When the business was sold, the new owner put all the main purchase requirements out to tender. The result shaved 14% off the company’s inventory costs or close to $100,000.
Most businesses tend to stick to the same supplier year after year, so this is an area well worth exploring. Costs that could be put out to tender in your business include insurance, power, telephones and internet.
The value of good systems
Introducing systematic procedures and methods will help reduce costs. Good systems will help you minimise errors, and reduce time and money.
The time invested in creating systems is usually minimal compared with that spent solving a problem from scratch. Where appropriate, turn decisions into policies to avoid having to make the same decision again or sort out the same issues.
Learn from mistakes and problem areas, and if systems go wrong, fix them. It’s a good idea to review your systems periodically to see where improvements can be made. A software company placed all of their information centrally on their server, so that staff could access information all the time, from anywhere. The owner found each employee saved five hours a week, which could be applied more productively.
Focusing management awareness on profitability can have a dramatic impact. Even if cash flow is your top priority, this should not be at the expense of profitability.
Make sure all your employees are aware of the importance of profitability. The most commonly used key performance indicators are actual sales against forecasts, costs against budgets, gross margin and staff costs. Get help from your accountant to ensure you’re monitoring the right indicators for your business.
Monitor and measure employee performance and productivity, and reward productive employees by linking pay to effectiveness. It’s important to praise and thank staff when it’s due, and provide a clear career path so they can grow and don’t see their prospects as limited.
A simple planning cycle greatly enhances your ability to make continuous improvements. Good planning also helps you to anticipate problems and adapt as circumstances change.
Set measurable, time-limited targets to monitor how effectively your plans are implemented. Then review what you’ve achieved so you can learn from your experience and make continuous improvements. Keep improving the underlying systems and the planning process itself, but be ready to alter your strategy if necessary.
Apply lessons business-wide
Set up systems that encourage the communication of best practice in your business. For instance, benchmarking different parts of the business against each other can be a useful way of sharing best practice.
Also improve communications with your customers and suppliers – they can offer useful tips and advice. Your customers will be aware of any problems and can tell you what you need to improve.
Increasing your turnover
Below are some possible tactics to improve your turnover:
- Invest resources in increasing your sales volume.
- Look for new markets and distribution channels. For instance, are you really making the best use of the internet? Can you form a strategic alliance with a complementary business or a joint venture to tackle work you don’t have the resources for on your own?
- Actively sell. Don’t just take orders. Businesses that are content to simply take orders are less likely to survive, let alone grow.
- Retain existing customers through good service and explain to your staff why the lifetime value of customers makes this effort worthwhile.
- Review your credit limits if sales to a particular customer go up significantly and consider a credit check. If they are stable and worthwhile customer, increase their limit or find out what else you can do for them.
- Maximise the value of your sales. Consider moving upmarket and providing a premium product and service. Add features to products if the perceived value to the user is greater than the cost to you.
- Keep your product or service up-to-date. If appropriate, extend your product range or work to ensure it stays ahead of the competition.
- Compare your price and quality with competing products or services. Aim to charge a full price and offer value for money from the extras you provide, such as after-sales service, installation and training or bundled extras.
- Focus your efforts on your most profitable customers. Look after the customers who place large or frequent orders, pay the full price on time and are low maintenance.
Review your profit margins
Businesses that offer a menu of products can use a simple technique to improve overall profitability. This involves reviewing sales and profit margins periodically, and dividing products into four categories:
- High percentage of sales and high profit margins – nurture these stars.
- High percentage of sales but low profit margins – consider a price increase and examine how you can cut costs to increase your profit margins.
- Low percentage of sales but high profit margins – consider a sales push.
- Low percentage of sales and low profit margins – eliminate these where possible.
Take into account any possible effects before making decisions. For example, a low-profit product might be the one that brings other business from a major, highly profitable customer.
- Use the free NAB cash flow improvement tool to gain a better understanding of your business and where to look for improvements.
- Get help from your accountant to identify the key performance indicators you need to measure. Concentrate on the top three or four indicators first.
Please note that this is a guide only and should neither replace competent advice, nor be taken, or relied upon as financial or professional advice. Seek professional advice before making any decision that could affect your business.
Download Guide – How to increase your profit (PDF – 547KB)
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