The primary goal of every business is to make profits. But, how do you clearly determine the profitability of your small business? When you calculate both outgoing expenses and revenue, it’s not unnatural to get confused.
Instead of using a single metric to determine the business profitability, if the small business accountants use net profit margin, then they will achieve success much faster.
In this article, we’re going to discuss some important factors about net profit margin in service-based and product-based business.
Differences between Net Profit Margin and Gross Profit Margin
Do you know that there are only two primary types of profit margins? Yes, they are gross profit margin and net profit margin. However, both of them carry the same importance for small businesses. The business owners should keep in mind that they need to use net profit margin to calculate the profitability of their business.
Let’s discuss some important facts that determine the net profit margin and gross profit margin.
Revenue
Revenue describes the gross income of your business that comes from offered products or services before deducting the expenses. Some people consider this as ‘gross billings’ or top-line revenue’. Revenue is usually calculated on a monthly or yearly basis.
Cost of Sold Goods
Whether it is the cost of time while assisting a client or a simple manufacturing cost, the total costs attribute directly to the services or products.
Gross Profit
The gross profit defines as the revenue of your company minus the total cost of the goods sold (COGS). In short words, it is how much profit you make after selling services or products, added Mike Giannulis.
If you are thinking about calculating gross profit, just simply apply a small formula.
The formula is being, Gross Profit = Total Revenue – COGS
Gross Profit Margin
The gross profit margin, also renamed as gross margin, can be calculated just by dividing the gross profit by the revenue. Here’s the formula to calculate gross margin:
Formula: Gross Profit Margin = Gross Profit / Revenue
Net Profit
Always remember, do not just focus only on the selling cost. Net profit describes the amount that you receive after you minus the total business expenses from your total revenue. Net profit is how much profit your business makes after deducting all the business expenses.
Formula: Net Profit = Revenue – Interest Expenses – Total Operating Expenses – Taxes – COGS
Net Profit Margin
The formula to calculate the net profit margin is simple. You just need to divide the net profit by the revenue.
Formula: Net Profit Margin = Net Profit / Revenue
Mike Giannulis Suggests Why Net Profit Margin is Important?
Many financial experts consider the net profit margin as the ‘bottom line’ for any business. Net profit margin provides a chart of the business’s financial health as well as stability. Net profit margin is crucial for lenders to default or refuse a loan. Investors use this to determine if your business is worthy of investing or not.
No matter how big or small your company is this metric is a great way to stay a step ahead of your competitors. When you compare your net profit margin to the other business within the same category, then it will allow you to realize your position or if you are doing better than your competitors.
How Can You Improve the Net Profit Margin?
Since the net profit margin is the ultimate goal, small business owners should keep in mind that they have to improve their net profit margin at any cost. Here are some key points that might help you to increase the net profit margin.
- Referral programs are very much effective among your consumers.
- Try to review the interest rates for your loans and business credit cards.
- As administrative costs don’t affect your service quality, it’s wise not to neglect them.
Conclusion
Well, here is the information that might help you determine the total net profit margin for your business which is particularly service-related. When you stay attractive and gain enough interest in this metric, it will help your company to grow as well as ensure that your business stays profitable.
