What are the key metrics that highly profitable companies look at to increase their profits? Here are the 3 that you'll need to look at in 10 minutes each month to know your next steps for improving your profits...
1. Pre-Tax Profit as a % of Sales
Take your pre-tax profit, meaning your sales less all your costs, such as contractors/consultants, employees, marketing, IT, equipment, supplies, rent, insurance, repairs, and maintenance, office, travel, meals and entertainment, interest, and salaries for you as well as any other owners of this business. Exclude tax that your company has to pay.
If you're currently paying yourself (or any other owners) a salary that's way below what someone else in the market would get paid for doing your job, then you should get an estimate of what the market would pay for the things you do. The reason is because if you want to eventually do something else, and hire someone else to do the work that you do now, then this is a market cost you need to factor in.
Once you take sales, and subtract all your costs from it, then you get to the pre-tax profit.
For example, if you have sales of $75,000, and all costs added are $72,000. Then you have a pre-tax profit of $75,000 - $72,000 = $3,000.
The pre-tax profit as a % of sales = $3,000 divided by $75,000 = 4%.
You want to compare this to the prior month and the same time last year. For example, if you're doing this in June of this year, then you'll want to compare it to June of last year.
One of the three things will happen when you make the comparison of your pre-tax profit as % of sales (or what we call profitability %), it's:
- Higher compared to before, then that's great! Figure out what you did to increase it, such as increasing pricing or getting more efficient with how you provided the services, and continue doing it
- Same as before, then work on figuring out how you can increase your pricing or get more efficient with how to provide these services
- Lower compared to before, see if it's your sales that's dropped. If so, figure out what caused this and fix it either by offering higher prices or selling more volumes, or focusing on growing the sales of higher profitability services, and cut your lower profitability services. If it's your costs that's gone up, figure out where. If it's related to employees, you'll need to figure out how to get them to increase productivity and efficiency so they have better output.
Pro Tip: To avoid seasonality factors, use the last 12 months for comparison. For example, if you're looking at the performance for June, then you'll want July of last year to June of this year. And then compare it to the year before that, so July of 2 years ago to June of last year.
2. Biggest Variable Cost as % of Sales
Take your biggest variable cost - meaning things that change dependent on how much your sales are doing. This would exclude things that don't change much, like rent, office supplies, etc. For example, your employees or consultants are typically the biggest costs, followed by possibly marketing or IT.
If it's people related, such as employees, consultants, marketing, you'll want to keep an eye on this cost as a % of sales as they should directly relate to an ROI for your sales. For example, your employees are $20,000 and your sales are $75,000 each month. This means that your employees are $20,000 divided by $75,000 = 27%. You'll want to see this go down or at least stay the same compared to the prior period. If not, then you'll need to figure out if:
- Employees need more training or perhaps they're not the right people for the job
- Consultants should be paid based on results that they deliver - ensure their pay is set up this way
- Marketing needs to be generating the sales, and you should see a downward trend in terms of marketing costs as % of sales, meaning your marketing efforts are giving you higher ROI. Otherwise, you should consider changing marketing strategies or providers. These people should also be paid based on results of the sales that they generate.
If it's IT, and you're seeing this as a % of sales going up, ask yourself and your team if all these softwares are needed to deliver the service. You can typically find either cheaper alternatives that have the functions you need without all the bells and whistles that you don't need and are paying a premium for.
3. Pre-Tax Profit per Full Time Equivalent Employee
It's important to ensure your employees are being as productive and efficient as they can for running the business. So count how many full time equivalent employees that you have. This means that if a full time person usually works 5 days a week, and you have a part-time person that does 2 days a week, then this part-time person counts as 2 days divided by 5 days = 0.4 full time equivalent.
So let's say you have 2 full time people and the 1 part-time person at 2 days a week, this means you have 2.4 full time equivalent.
You'll take your pre-tax profit and divide it by the number of full time equivalent. For example, $30,000 of pre-tax profit divided by 2.4 full time equivalent employees = $12,500.
One of the three things will happen when you make the comparison of your pre-tax profit per full time equivalent employees, it's:
- Higher compared to before, then that's great! Figure out what you did to increase it, such as process changes or getting more competent employees, and continue to optimize their productivity
- Same as before, then work on figuring out how to be more efficient for providing these services, or for your support people like HR/IT/finance to use automation/more efficient processes
- Lower compared to before, this is understandable if you're onboarding a new employee(s). If this is the case, you should see this go up once they're onboarded and fully trained. If you're not onboarding anyone, then you probably have an idea of who's struggling on your team. Really focus on what you can do to help them become more productive - give that person a timeline that if their performance doesn't improve within 3 months with the clear achievable target that you've given them, then you'll need to unfortunately ask them to leave and find someone else to replace them. This may sound cruel but you want people who are committed to getting better on your team, so that your business can grow, and not have one person pulling down the rest of you/your team.
Next Steps:
If you're wanting to customize an easy dashboard for you to know the key metrics each month/quarter/year by reviewing it in just 10 minutes a month to grow your profits, contact me via angela@askangelalin.com
What are your biggest problems with your accounting/financial processes for growing your profits? Comment below so that I can help you!
