At the end of the day, profit is a big motivator for starting and running a business. This is why there are many ways to analyze how profitable your business is.
You can check directly from your financial statements or utilize simple means like ratios.
Unfortunately, small business owners can make the mistake of leaving their profit analysis at margin and amount. This is bad because profit level reveals much more about your business.
There are also 3 types of profit. There is the gross profit, operating income and the net profit. It is best to analyze each of them individually to get a better picture of your business position.
Operating profit
Net profit is what belongs to you, and that is important. But, arguably, operating profit is the most important of the 3. If it is too low then you are in a lot of trouble and if it keeps coming up negative then perhaps your business model is not viable at all.
The amount is right there on your income statement. You subtract your business expenses from your gross profit.
As the entrepreneur, you can choose to play around with figures to alter either your gross profit or operating profit. You can decide what will be considered part of operating expenses and what is part of the cost of goods sold.
The first thing you will figure from your operating profit figure is your cash flow. It’s not quite the tool to show how much working capital is at you hands but it comes close. This is because it focuses on operations, which is the source of growth for a small business. You can make profits but fail to grow in the long run. It’s okay for operating profit to be low but you should monitor closely to keep your head above the water.
The reason it’s okay for it to be low is because you increase it by reducing the cost of doing business. Usually, both small and big business come around to focus on cost reduction when times get rough. You have to ensure that wastage is at a minimum or eliminated (if possible). The main reasons for wastage are usually loss, theft and poor handling of products.
READ: HOW YOU CAN SUCCEED IN A MALE-DOMINATED SECTOR
Your business also needs to have high productivity. This means you are getting more out of the resources in your business.
To be productive and efficient, your team needs your management A game on show. Do you manage performance of your employees well? Do you ensure quality of work is consistent?
Perhaps, the reason your operating profit is not reading well is because you did not price your product well in realizing gross profit. If figuring out the right price is a problem, you can always base it on your cost of doing business. You add a margin to the cost of each product. This is known as the markup.
One more thing that your operating income can reveal is how much risk your business is exposed to. This will tell you if it’s time to push more of your product or look for a new source of income to cover your fixed cost. Your business may be seasonal – like our hawker friends who show up with umbrellas out of nowhere when it rains – so what will you do when there is no business to keep operating income alive?
You could be tempted to change your business model. Look at supermarkets ever since they came to the estates. They still have to open at 8 am even though there is barely foot traffic leave alone conversion to a sale. Does this have an effect on variable cost?
You can also leave the simple ant-life. Make as much money as possible if your business sells in Christmas, Valentine’s, election or other such reaping seasons. You could sustain operations with this during the rest of your financial year.
