Profit is sanity

‘Turnover is vanity, profit is sanity’ – so the business saying goes. But what does that mean in practice? In an economic downturn, sales often start to fall and so businesses scramble to replace this lost turnover.

Competition intensifies and prices are cut to win business. But instead of replacing lost turnover to help cover your costs, you have unwittingly taken on unprofitable business that will leave you with a loss.

Is that new business worth it?

• Cost each product or service: do not take on business if it does not make a profit
• Look at ways to reduce costs: this will allow you more scope to reduce prices
• Be wary of big orders: this can lead to overtrading when the business takes on more work than it can handle and runs out of money to finance it

Maintain Profit Margins

The flip side of price is cost – you can maintain profit margins even if you are reducing prices, provided you also reduce the cost of what you are making or providing.

It is vital to keep overheads down but avoid cutting:

• Stock levels to such a low point that you cannot fulfil new orders
• Staff you need to run your business
• Sales and marketing expenditure which you need to attract new business
• Investment in equipment or product development that enables you to remain competitive
• Insurance as you could leave your business inadequately covered

On cutting costs...

• Don’t get emotionally involved. Make hard-headed business decisions. You may want to keep a particular office open because it was where you started or a certain product line because you created it. If it is losing you money, you have to lose it – or risk losing your business.
• Make decisions based on the facts. A “gut feel” is not good enough. It is only when you see what is profitable and what is not that you can make a decision.
• Start with non-essential expenditure – then tackle fixed costs such as utilities, stationery and other outgoings.
• Pass on price cuts. If you are under pressure to cut your prices ask your suppliers to do the same – if you can. If they won’t negotiate on price ask for longer payment periods or shop around.

Are you making the most of management information?

Knowing which products are going to sell best and bring in the most profits and which costs are rising and could hit your margins, is vital. For that, you need to have the right management information.

The key difference between this economic downturn and the recession of the early 1990s is information technology.

The Key Barometers

There are usually four or five barometers that indicate the health of any business. You need these to be annual rolling totals either on a monthly or even a weekly basis. Check the actual figures against those forecasted and against the previous year’s. These key indicators will vary from business to business but could include:

• Turnover – not just the total but some key figures.
• Enquiries – or foot traffic, number of visits to your website or another key indicator of interest in your product or service.
• Stock – if too much of one item is piling up it is a reflection that sales of that particular product are falling. The danger is that too much cashflow will be tied up when you need it for day-to-day needs.
• Costs – keep track of how these are rising. As has been seen in recent months, some costs – such as fuel – can rise rapidly.
• Late payments – you need to keep a daily eye on how quickly money is coming in so you can spot potential problems early on.

Then you need to act on the information. For example, by selling off surplus stock or putting up prices to reflect rising costs.

[Extract from Trading Through The Economic Downturn - published by NatWest - full Guide available by clicking here]

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