In reality, the shop that reduces its costs by a small percentage has a faster impact on profit margin than one that increases sales by a small percentage.įor example, assume the example auto repair shop has a total revenue of $100,000 and total expenses of $95,000, leaving it a profit of $5,000 or a 5% profit margin. In an attempt to increase profit margin, a lot of auto repair shops look to increase sales first. When you as an auto shop owner take control over your profit margin, it places itself in a better position to control costs and make effective sales plans to increase revenue. Increased revenue does not always lead to increased profitability. It is important for any auto repair shop owner to understand its profit margin. IMPORTANCE OF UNDERSTANDING PROFIT MARGIN Looking at the new figures, the company still has a profit of $100,000 (total revenue minus total expenses) but its profit margin has shrunk from 20% down to 14.3% ($100,000/$700,000 = 0.1428 or 14.3%). Imagine these additional expenses increased the company’s overall operating cost to $600,000 annually. Using the example auto repair shop, assume that the store increases its sales to $700,000 annually to get the sales increase, the store advertised more, hired another service advisor and technicians to manage the increased car count, rented and remodeled an adjacent space for increased showroom visibility and purchased more parts than normal. The profit margin also acts as a gauge of your company’s control on operating costs. To determine the store’s profit margin, divide the net income ($100,000) by the total sales revenue ($500,000) and the store has a 20% profit margin – $100,000/$500,000 = 0.20 or 20%. To measure profit margin, use the auto repair shops net income divided by the total sales generated.įor example, the auto repair shop had a net income of $100,000 and generated $500,000 in sales. Unlike profit, which gets measured in dollars and cents, profit margin gets measured as a percentage. It measures how much a company keeps in earnings from every dollar of sales it generates. Profit margin acts as a measurement of a company’s profitability. PROFIT MARGIN MEASURES A COMPANY’S PROFITABILITY Take the $500,000 in revenue and subtract the $400,000 in expenses, and that auto repair shop has an annual profit, also called net income, of $100,000. From now on I want you to think of Profit as: Sales-Profit=Expenses, but more on that later.įor example, let’s say an auto repair shop sells $500,000 worth of parts and labor a year and its total expenses to operate the store (rent, utilities, labor, advertising, licenses, merchandise etc.) totals $400,000. This is a formula that is outdated and lazy, that we should be getting away from and is keeping you from being successful in your business. This can help anyone better understand profit: sales-expenses=profit. PROFIT IS TOTAL REVENUE MINUS TOTAL EXPENSES Whether running a tattoo shop or an auto repair shop, a business owner needs to understand the difference between profit and profit margin and realize which one serves you as a better measurement for understanding costs. One goal of any business is to increase its profit, but increased profit doesn’t always lead to increased profit margins.
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