I find business owners have a hard time keeping the gross profit margins on their product or service in mind when establishing pricing. To be able to maintain your gross profit margin, you need to know what your costs are.
Fixed costs are the costs to unlock the door each day – those bills you incur whether a customer or sale comes in or not. Fixed costs include rent, insurance, loan payments and others. Variable costs are those that are directly associated with the product or service you provide – they go up when you have work like buying the materials needed for a job. If you don’t know your costs, it’s time to figure them out.
Once you know your costs, establishing the price for your product or service that retains a gross profit margin high enough to support the entire cost of your business (fixed and variable) is key. Does that mean you will always get the gross profit margin you want? No. Having a baseline established so you know when you are no longer making profitable sales is important.
QUIZ: If the actual net cost of your product or service is $100, to sell it at a 25% gross profit margin what does the selling price need to be? __________ (Hint: Gross Profit Margin is not the same as Markup.)
Without a gross profit large enough to cover all your expenses you do not have a viable business. When was the last time you reviewed your numbers? If you haven’t done so recently, it is probably time to do so.
QUIZ ANSWER: Sales Price (SP) needs to be $133. Not what you thought? That is where a lot of businesses end of saying “I’m making sales, but not making any money.”
Gross Profit Margin (GPM) is Gross Profit (GP) divided by Sales Price (SP). GP/SP = GPM
Gross Profit (GP) is Sales Price (SP) minus Net Cost (NC). (SP – NC) here (SP – $100)
In the Quiz question with net cost at $100, the equation is (SP – $100)/SP = .25 GPM
Sales Price = $133 for a 25% Gross Profit Margin on the $100 net cost product
It’s not a trick question. If you thought you would make a 25% gross profit margin with a selling price of $125 that is where the problem is. With a 25% markup over your net costs, your gross profit margin is only 20% and may not be covering the full cost of your business.
Calculations:
Gross Profit Margin (GPM) is Gross Profit divided by Sales Price (SP). GP/SP = GPM
Gross Profit (GP) is Sales Price (SP) minus Net Cost (NC). (SP – NC), here ($125 – $100)
With a sale price at $125 and net cost at $100, the equation is ($125 – $100)/$125 = GPM
Gross Profit Margin on the $100 cost product if sold for $125 is only 20%
With a 25% markup over your costs, your gross profit margin is only 20% and may not be covering the full costs of your business.
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Making sales, but not making any money? Check your numbers! Not sure where to start? Call for an appointment and we will do our best to point you in the right direction. 931-456-4910
