Will Business Growth Increase Profit?
Posted on Thursday, August 21, 2014
Question: My business has not been growing but it seems as though I add more people and equipment without increasing my net profit. What am I doing wrong?
Answer: Let's see what happens in a typical company as the business grows. Suppose that a company is netting $50,000 on total sales of $1,000,000 (a 5% net profit). If this company has a 40% gross profit (on items sold), a $100,000 increase in sales should add $40,000 to the bottom line. I say "should" because the increase in sales may cause the need for more equipment, space, or inventory. Perhaps this company should take a closer look at managing how the company grows. Growth for growth's sake can be financially unhealthy. A better way to increase net profit might be to increase the gross profit on all or most of the items sold. A 4% increase in the selling price would add $40,000 ($1,000,000 x 4%) to this company's bottom line if the price increase doesn't cause a loss of customers.
Suppose this company sells a top quality product and provides excellent service. These are major facts in the competitive world. If 30% of the current customers account for 70% of the total sales, they are probably dealing with the company for reasons other than just low prices. Sell these customers on the fact that a slight increase in prices is necessary to maintain the quality of product and service that they expect and deserve. Good customers would like the company to be around in the future and should appreciate and understand the need for increasing prices.
When you add equipment or increase your staff, you have increased the level of sales at which you can break even. If your company is now feeling the need to increase its capital investment, perhaps your manager should look first at increasing the price for which the product or service is sold. Just maybe.
Posted in Tax And Accounting Topics For Business
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