EPISODE 9: Gross Profit Margin Strategies

20 August 2020

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In this episode we're covering the three strategies you can use to improve your Gross Profit Margin. We'll covering increasing your prices, dropping your direct costs, and increasing the volume of product you sell. We'll also let you in on how a builder saved $80,000 per year.

Download your margin worksheet here

Episode Transcript: 

Welcome to the Business Made Easy podcast brought to you by convexaccounting.co.nz. 

Riann Umaga-Marshall: Hi, I'm Riann Umaga-Marshall. 

Hamish Mexted: And I'm Hamish Mexted. 

Riann Umaga-Marshall: And welcome to Business Made Easy. In today's podcast, we're covering how you can increase your gross profit margin. People also fall victim to not being able to increase their prices, so assume they can't change their profit. We often work with businesses who successfully change their margin in one of three ways. 

Hamish Mexted: And it's these three ways that we're going to run through today, because fundamentally people always feel awkward about charging. They feel awkward about putting up their prices because they're uncomfortable that a customer might leave if they increase their price, so they simply do nothing. They sit back and take a real victim mentality around it. Whereas what we advocate to the businesses we are working closely with is that they constantly look at their margin to identify how they can improve it. 

And look, if you're not sure about what your margin is, make sure you listen to podcast number eight, which we went through last week, the difference between your net profit and your gross profit, and then how to turn those into a margin so you can tightly monitor what's going on within your business in real time. 

Fundamentally though, there are three ways that we can increase the margin, the gross profit or net profit within your business. The first way is to increase your customer numbers. So, this is to get more punters through your door. The second option is to reduce your direct cost. So, these are the cost of goods sold which go into running your business and keeping the doors open. And the third way is to increase your prices. 

So, if you can execute on one of those three strategies than you're going to be much more able to influence the net profit margin or the gross profit margin within your business. And look, there's a lot more to this than simply raising prices. It's got to be a deliberate strategy that you work through and you look at all three options, rather than just taking one and having a head and hope approach. 

So, off the back of lockdown, we've been working really closely with a small engineering and manufacturing business. So, going into lockdown they had these two service lines, and after one of the service lines is basically unsustainable. They needed to shut it down because it related to the tourism industry and they just got no sales. So, they look at their business and start to wonder how they can keep the lights on and keep their staff employed, when they've lost one of their two service lines. 

So, we did some forecasting with them and really planned out what the coming weeks and months ahead looked like. And we helped them to focus on the second service line. And what our forecasting showed them is that if they can increase their customer numbers by 5%, and 5% isn't unrealistic. It's a number that they can achieve with a really clear marketing strategy. 

So, we're not trying to reinvent their business overnight by saying, double your customer numbers. We're only looking for 5%. So, the first thing for them is to increase their customer numbers by 5% and then from there to drop their direct costs by 5%. So, we're selling more to people and the cost of what we're selling them is costing is us less.

And then the final thing I guess became, bring up their prices. And off the back of COVID, it felt uncomfortable for them to put up their prices, but when we looked back, they hadn't done it for a few years. So, most of their customers were really, I wouldn't say they were happy about it, but they were understanding and accepting of the price changes. 

So, with those three changes, so increasing customer numbers, reducing direct costs, and increasing their pricing, they've been able to increase their gross profit on the service line that they've got left by 35%. And 35% is amazing for them. It's a business who's been operating in a really traditional sense for a long period of time with no massive change. COVID's come along, it's given them an opportunity to re-examine what they're doing, how they're doing it, and they're getting great results off the back end of it. 

Still uncomfortable for them to have lost their service line, but they're getting good results form it. If you want to start running through this exercise for your business, as I said before, make sure that you check out episode eight, where we're going into the difference between your net profit margin and your gross profit margin. Fundamentally though, if you increase the volume you sell, you're going to have a higher direct cost. So, what you sell is going to cost you more, you're going to have higher cash flow requirements because if you're selling more, people are going to owe you more money. 

So, you have higher debtors. You're going to have more pressure on your staff. So, increasing the volume that you sell, isn't the golden bullet to increasing your margins. It's got to be in correlation with you taking these other two approaches and they had to recap, when you last looked at how your suppliers charge you. So, if you can get better pricing from your suppliers than that savings from your suppliers is going to straight onto your bottom line. Either in the early payment discounts they give you, what if you change suppliers? A trainee that we worked with recently saved eighty grand, just by getting two percent better pricing from changing from one building supply chain to another. 

And then the third strategy, is to simply put up your prices. Now look, this is hard to do, especially post COVID, but have you looked at your pricing since then? When did you last change your pricing? And when was the time before that? If you're only changing your pricing every three years, then you're leaving money on the table. We would advocate that you should at least look at your pricing every year really solidly and look to change it annually, if not more often when you're able to. 

Riann Umaga-Marshall: Get in touch with us here at Convex if this is something that you want help with looking at a little bit closer. But we do kind of emphasize that you have your Xero set up so you're able to see these numbers more regularly. That's all we've got time for today, for more info on what we've covered, check out our website, convexaccounting.co.nz/podcasts and select episode nine. 

There you will find a worksheet for you to see the impact of changing your pricing, volume, and the direct costs for your business. If you're listening to this podcast close to when it was published, you might also be able to join our community call. We've got a group of real-world businesses coming together to share what they've done in practice to improve their margin. If you'd like to find out more on our community calls, or to get involved, just reach out to us through our website. 

Hamish Mexted: convexaccounting.co.nz/podcasts. In our next podcast, we'll be checking out the purchase frequency of your customers. So, we're talking about how often customers come back to you and what the impact of that is on your financials at the end of the day. 

So, as Riann mentioned, jump on our website, go to podcasts and select episode nine. Download our worksheet, there's some great information in there on how you can improve both the gross profit and net profit margins in your business, and to really get a head financially. Thanks for tuning in. 

 

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for more help feel free to reach out. Get in touch with Riann Umaga-Marshall

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for more help feel free to reach out. Get in touch with Hamish Mexted