The key to managing your business to make it successful lies in knowing and understanding the financials. However, to maintain the success of your business, there are some things that you need to keep track of. One of them is tracking your business’ profit margins! Profit margin or net profit ratio is basically the profitability measure that exposes the amount by which revenue from total sales exceeds the net costs in a business. While it may seem to be a minor financial concern, but here’s why you need to track the profit margins of your business in order to strive for good business management:
Know the difference between profit and profitability
Before exploring the reasons for tracking profit margins, you first need to find out the significant difference between profit and profitability. Both the terms have very different essence. While profit refers to the amount left after deducting the total expenses associated with a business from its total revenues, the profit margin or profitability, on the other hand, is the relation between the total income and overall sales, often measured as a fraction or percentage.
By considering the profit margin, you can gauge your company’s ability to make a profit. There are various types of profit margins, however, most consulting accounting firms focus upon the net profit margin. You can use the net profit margin of your business to estimate the performance over specific time periods. You can even use this margin to do comparisons with your industrial competitions.
Now, as and when the difference between profit and profitability is clear, let’s look at the benefits of tracking the profit margins of your business.
Finding trivial cost shifts
When getting a sight upon your business, you surely are focussed upon the profits. Most businesses reinvest this profit into the company itself to let it grow consistently. While adding up all the expenses and revenues gives you the net profit, but where the costs have increased is not evident.
If you want to check if your business is yielding a financial gain, you need to track the profit margin. Profitability or profit margin is essentially used to compare and contrast the areas responsible for profit draining in your business.
Using Profit Margin, Get a realistic stance of the health of your business
Suppose a business (Company A) that makes $200,000 in net revenue after 2 million in total sales. Another business (Company B) makes the same $200,000 in net revenue but does it with just $600,000 in sales. The result is that Company B has a higher profit margin, even though they made less in sales than Company A.
Here, both companies were profitable. But Company B is clearly doing a much better job of managing expenses and is in a healthier position than Company A. However, that might not be as apparent without looking at the profit margin.
Identify expenses that affect your business
Managing the expenses that come with increasing profits in business is an important thing. Cost-cutting helps a company to develop a healthy business.
Thus, by knowing your business’s profit margin, you can develop better planning for your business taxes as well. Tracking profit margins lets you understand the financial well-being of your business.