Stop profit erosion – 5 tips for keeping control of your margins
Making money – it’s the reason most of us are in business, to put dollars in the bank. It sounds pretty simple – we just have to sell at a higher price than our cost, right? Yes, as a concept it is certainly simple, but when it comes to implementation in the real world, with multiple variables and constant change, it can be difficult to effectively measure margins. Without measurement, before you know it (or without you knowing it) those margins get eroded and profit can reduce or even become a loss.
The good news is that with the right information and approach, you can monitor your margins and take action to maintain your profits. In this article, I’ll take you through my 5 Top Tips for Margin Management
1. Alert yourself to changes
The most common reason that margins get eroded is lack of monitoring – you set your prices, based on cost and desired margin, at a point in time and that’s it – job done. Suppliers’ costs change though, and what you actually need to do is to keep checking the effect that those revised costs are having on your margin.
It isn’t always practical to do this manually, particularly when you have multiple products and multiple ingredients in a product, so Tip Number 1 is to implement a good inventory management system that allows you to enter your recipes and prompts you to enter each invoice.
We often think of inventory management and stock control as being all about loss management, but a system that updates unit costs each time you purchase a product enables you to also manage margins in real time. Don’t forget the ‘hidden costs’ either – one that is often neglected is freight, so ensure you use a system that attributes freight costs down to individual items, and take these into account when calculating overall cost of a product. The system needs to be able to alert you to cost changes, based on your chosen parameters – for example, ‘tell me if the costs from supplier ABC have gone up more than X%’
2. Act early
Once you have this information, you can use it to take early action, before any damage is done. Those actions might include:
- Check for data entry and unit of measurement errors – for example, was I buying by the litre last time and in 2 litre units this time?
- Do I need to be considering alternative suppliers?
- Can I re-negotiate with my supplier?
- If this cost increase is unavoidable, how much do I need to adjust my retail sale price to maintain my margin?
3. Regular profitability reviews
Even if you have followed Tips 1 and 2, you will still want make regular checks, to avoid the build-up effect of small changes, maybe only 1 or 2% at a time, but which over an extended period have an impact. Tip 3 is therefore to run a regular profitability report to review cost and sell prices to ensure you are making the margin you expect.
4. One size doesn’t fit all
You may well want to generate different margins from the same product sold through different parts of the business. For example, as a pub I might sell my sparkling wine at 70-80% margin in the lounge bar but 40-45% in the bottle shop. Tip 4 is therefore to implement a system that goes beyond margin by product, and allows you to monitor margin by product by sales area.
5. Measure the impact of promotions
Marketing departments love promotions – whether it is ‘Buy one get one free’, Member discounts or ‘Wine of the month’. Good promotions will increase sales volume, but will also have an impact on margin. Tip 5 is therefore to analyse current margin before you run a promotion, and model not only the revenue increase but the impact on margin. Then you can ensure that you are running effective promotions and not unnecessarily reducing margin.
The bottom line
Margin analysis is an important tool, and by following the above tips, you can be confident that you understand your current margins and can take the appropriate actions to manage and protect them.
But of course ultimately the bottom line measure is profit dollars – and it is important not to confuse margin with profitability. Whilst margins are an excellent measurement tool, they are only part of the profit picture. It is of little value earning great margins if sales volumes are low. Similarly, high sales volumes at the expense of good margins could also mean you are working harder for less. So, use the above tips to manage your margins, and use them to protect and enhance your bottom line.