Increase your profitability
- 1 Overview
- 2 Manage your costs
- 3 Review your offer
- 4 Buy more effectively
- 5 Concentrate your sales efforts
- 6 Expand your market
- 7 Boost productivity
- 8 Checklist: improving the profitability of your business
There are four key areas that can help drive profitability. These are reducing costs, increasing turnover, increasing productivity, and increasing efficiency.
You can also expand into new market sectors, or develop new products or services.
This guide explains how to assess your business' profitability, deliver growth for your bottom line, and how to plan and manage change.
Close management of your costs can drive your profitability. Most businesses can find some wastage to reduce, it's important not to cut costs at the expense of the quality of your products and services.
Have you looked at your key cost areas?
Your key cost areas to consider are:
- Suppliers - are you getting the best deal from suppliers? Can you negotiate better terms or do you need to change supplier? Can you drive better deals by consolidating your supplier base? Can you buy on a 'just in time' basis to make more effective use of your working capital?
- Finance - do you need to review your finance facilities? - are they at the most competitive terms available? Are you using any loans and overdrafts effectively?
- Premises - have you examined whether you are getting the most out of your space? Are there more efficient ways to use your premises? Could you sublet some unused space?
- Production - have you assessed whether you can cut waste and lower the costs of your materials. Check whether you can adapt your production processes so they are more streamlined, using fewer working hours or resources to cut labour costs.
Uncover real costs
Using activity-based costing is an effective way to find the real cost of specific business activities. Activity-based costing shows you how much it costs you to carry out a specific business function by attributing proportions of all your costs - such as salaries, premises or raw materials - to specific activities.
The initial analysis may take a little time but using activity-based costing often shows up costs (and therefore potential efficiencies) that you would not normally uncover using more traditional costing methods.
Look carefully at what you offer, who you sell it to and at what price and see if you can make improvements.
It's a good idea to review your pricing regularly. Changes in your marketplace may mean that you can raise your prices without risking sales. However, it's wise to test any price rises before you make them permanent.
Find your best customers
It's not just your price list that affects your profitability - the type of customers you're selling to can also make a big difference.
Consider the Pareto principle (often known as the 80/20 rule) and how it could apply to your business. In simple terms, applying the Pareto principle suggests that around 80 per cent of your profit is gained from 20 per cent of your products or services. The same percentage of profit is often also gained from the same percentage of customers.
Focusing on your most profitable customers - even if it means letting the less profitable ones go - could boost your profitability, so long as it is handled carefully.
Can you sell more to your best customers?
You may also be able to sell more to your most profitable customers. Consider the following opportunities:
- up-selling - selling them premium products that make a greater contribution to your profit
- cross selling - analysing what they buy and offering complementary products
- diversifying - identifying a need and developing new products and services to meet them
One of the most obvious routes to increasing your profitability is to buy more effectively. It makes sense to review your supplier base regularly and see if you can buy the same raw materials more cheaply or efficiently. However, try to ensure that you maintain quality at the same time.
Get the best deal from your suppliers
Identifying your key areas of expenditure will show where you spend most money.
Once you know where your money is going, shop around. Try bargaining with your suppliers - ask if you can have price reductions or discounts for early payment.
Consider using your status as a valued customer to agree long-term contracts or realistic annual minimum spends with regular suppliers to obtain a better price. You could also buy as part of a consortium with other similar businesses. If you can't strike a better deal, consider switching to other suppliers.
Review the number of suppliers you use. Buying from too many can be inefficient - it takes up more time and dilutes your buying power. However, avoid placing all your business with one or two suppliers - it could leave you very vulnerable if things go wrong.
Cut waste throughout the business
A review of common areas of waste could help you see how to reduce them, for example:
- Can you cut your power costs, e.g. is all equipment turned off when it's not being used?
- Are you getting the best deals from your power suppliers?
- Are you paying for unused services e.g. unused phone lines or photocopiers?
Consider whether you're getting the best from your property. Your premises are a large expense , so get the most from your investment or rental agreement:
- Can you use your space more effectively by rearranging it?
- Could you sublet unused areas?
- Could you negotiate a lower rental if you agree to a longer contract?
There are two key strategies for boosting profitability through sales; selling more to existing profitable customers and finding similar customers to sell to.
Work with your best customers
You should know who your best customers are, what they buy and when they buy it.
You can usually put your customers and the products or services they buy into one of four categories:
- high sales and high profit
- high sales and low profit
- low sales and high profit
- low sales and low profit
It makes sense to encourage customers that provide high sales and high profit. You can also significantly boost your profitability by nurturing customers that provide high profit on low sales.
If customers are providing low profit from high sales, you can maybe revise pricing to generate more revenue from them. If customers are generating both low sales and low profits, consider whether it's worth your while continuing to do business with them.
Find new 'best' customers
Make a judgement on expanding your customer base by finding new customers who have a similar profile to your existing profitable customers.
If you are sure you have covered your existing market as much as you can, consider moving into new markets.
Moving into new market areas can transform a business and, handled correctly, can significantly increase your profitability. However, expanding into new markets can be risky - and mistakes can prove very expensive.
Do your research
Before you start, carefully research the potential opportunity. Can you tailor or adapt existing products or services for new markets? This can provide new revenue at minimal cost and is ideal for boosting profit. For example, if you manufacture tools for the garden market, are there any potential applications for the tools in the construction industry?
Do you understand who your potential new customers are, why, when and how they will buy the product or service and how much they will pay for it?
You can also use social media to do research and gain alternative insights, opinions and feedback from your customers.
Developing new products and services
If you're developing a new product or service for a new market, it's good to carefully consider its viability. Key questions include:
- Do you have the skills and expertise in-house or will you have to buy them in?
- Have you got the commitment and resources available to make the new project work?
- Can you minimise the risk?
- Can you be sure there's a demand for the new product or service at a price you can make a profit on?
Team up and reduce the risk
Rather than going it alone, partnerships and joint ventures can provide you with increased security in establishing yourself successfully in a new or expanded market.
All businesses can minimise wastage costs and still remain competitive.
Measure your operational efficiency on an ongoing basis. Put systems and processes in place that will enable you to get the most from your resources.
For example, you could regularly monitor how many employee hours it takes to perform specific tasks or provide services. If the time increases, it indicates inefficiency - the quicker you eliminate this, the more your profitability will benefit.
The commitment to managing productivity must come from the top to be successful. Communicate your productivity targets and measurements so staff feel they have something to aim at.
You can also consider introducing staff incentives to keep to targets - but define them carefully so quality is not adversely affected by increased speed of production.
Defining the key performance indicators (KPIs) that are most suitable for your business would give you clear targets to aim for. They should reflect your goals, be measurable and comparable and allow for corrective action to keep your targets on track.
Streamline your processes
Stepping back on a regular basis and questioning whether there are more efficient ways to reach your goals is no bad thing. For example, you may always produce a particular type of product at a specific time in the month. But would it ease your cashflow if you produced, shipped and invoiced it earlier, or later, in the month?
It's useful to get an idea about how comparable businesses approach similar issues. This is known as benchmarking. Benchmarking can be on a basic, like-for-like level - such as comparing energy costs between similar businesses - or it can be more detailed, such as sharing data and analysing production and stockholding patterns with other businesses you trust.
The additional perspective that benchmarking offers can provide new ideas and momentum to make your business more efficient.
When benchmarking, it is a good idea to focus on similar areas to the key performance indicators (KPIs) you have already identified. Although there are no standard templates you can use to benchmark your business, you could take the following steps:
- Deciding on the areas of your business that you want to improve or compare to others. You could do this through research techniques, such as informal conversations with customers, employees, or suppliers, focus groups, or marketing research, quantitative research, surveys and questionnaires.
- Researching your business' processes and functions thoroughly and calculate how you will measure potential improvement.
- Finding industries that have similar processes you want to introduce - if you want to bring in an integrated IT system, you should find other businesses that currently use these types of system.
- Locate the businesses that are profitable in the industries you are interested in benchmarking - you can do this by consulting customers, suppliers, or trade associations.
- Survey these companies for their measures and practices and identify business process alternatives. If a business is reluctant to provide this information, you may get it through trade associations or commercial market reports.
Improving your business' profitability can help you to reduce costs, increase turnover and productivity, and help you to plan for change and growth.
How you increase your business' profitability will depend on a number of factors - such as the business sector you work in, the size of your business, or its operating costs. However, you could review these options:
- locating areas in your business that could be improved or made more efficient - e.g. general business processes or administration
- using key performance indicators (KPIs) to analyse your strengths and weaknesses - e.g. rising costs or falling sales
- assessing your general business costs - e.g. overheads, how discounted deals with loyal customers affect your profits, how productive your staff are
- reviewing your areas of business waste and reduce them - e.g. power supply costs
- regularly reviewing the pricing of your products
- testing the prices of any products you review before making the changes permanent
- improving your profitability through your best customers - use up-selling, cross selling and diversifying techniques to improve your profit margins
- identifying areas of expenditure and limit these by bargaining with your suppliers
- long-term deals with suppliers to negotiate a better price on products
- researching new opportunities in your business sector and identifying where you could expand the market
- put monitoring systems and processes in place - e.g. benchmarking