Updated 1 years ago
Profits are the lifeblood of a business. Without them, the business will hemorrhage with financially disastrous results. However, just being in the black does not necessarily mean a business is as profitable as it could be. That is, a firm with a net profit margin of 5 percent that pays the owner a salary may not be performing to its full potential.
One business I was assisting was making reasonable profits, but the level was not as high as the owner wanted it to be. The owner had been struggling with this problem for a while and kept trying to cut overall costs through staff reductions in hopes of boosting profits. Profits did improve as a result of these efforts, but only marginally. There was also a negative side effect of these reductions: declining customer service.
After spending some time reviewing the firm’s financials with the owner, I realized that the problem was not that its aggregate costs were too high, rather that they were selling unprofitable products and services. The firm was actually losing money — and a lot of it — on five out of 25 products.
This became blatantly obvious when I broke out the profits by product and service. After recasting the financial statements, the owner was able to see how these five underperforming products were affecting the firm’s total profits. The simple act of eliminating these products took the business’ net profit from 5 to 15 percent.
Though profits increased, revenues dropped because the five eliminated products were no longer in the firm’s portfolio. However, though declining revenues are not normally desired, it was good for the business in this case. It allowed them to get their profits back up and provided them an opportunity to look for other products that would generate higher profits. As in this situation, a purposeful decline in revenue to increase profits is a fine strategy, as the alternative just is not viable.
Regularly evaluating each item in your product and service mix is critical to ensuring each continues to be profitable and your business remains viable. Just because you currently sell a product or service does not mean you have to be wed to it for life.
Now go out and make sure you establish a policy of reviewing the profitability of each product or service on a regular basis. By having this policy in place, you will ensure your business remains viable and profitable.
You can do this!
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Jerry Osteryoung is a consultant to businesses - he has directly assisted over 3,000 firms. He is the Jim Moran Professor of Entrepreneurship (Emeritus) and Professor of Finance (Emeritus) at Florida State University. He was the founding Executive Director of The Jim Moran Institute and served in that position from 1995 through 2008. His newest book co-authored with Tim O'Brien, "If You Have Employees, You Really Need This Book," is an Amazon.com bestseller. He can be reached by e-mail at firstname.lastname@example.org.