More and more people are using the internet to buy nowadays. Not having to go out to buy anything is among the many things that contribute to the preference of eCommerce businesses over others.
That’s why eCommerce is an industry that is growing steadily and is among the most profitable businesses you can start a business in.
There is no limit on how much money you can make through an online eCommerce business. Some people can earn thousands of dollars within a month, while others make a few dollars. Irrespective of how much you make, you should understand your profit margins.
What is a profit margin, and how do you calculate it?
Businesses have two types of profit margins:
- Net profit margin
Net profit margin It is a measure of profitability for the entire company. Typically, profit margins measure how much from each dollar of the sales you keep in earnings, and they are measured in percentages.
The net profit margin is the net income of a business divided by the revenue (net profit). You arrive at the net income by subtracting all the company’s expenses from the total revenue.
- Gross profit margin
Gross profit margin shows you how much markup to put on your products. Therefore, it is a gross profit of services or products, and you get the figure by taking the revenue minus the expenses of making the products. Next, divide the gross profit by the income and multiply by 100.
For instance, using this online profit margin calculator a company’s revenue is $120, it incurs $30 to make such revenue, and overhead costs, including taxes and interest, is $20. Therefore, your gross profit is $90 ($120 - $30). You then divide gross profit by the revenue margin ($90/$120), which equals 0.75. Lastly, you multiply what you get by 100 (0.75x100). Which means your gross profit margin is 75%.
To get net profit value, take gross profit minus overhead expenses, in this case, it’d be $70 ($90 - $20). Next, take net profit, divide it by revenue and multiply by 100 ($70/$120 x100). In this example, the net profit value would be 58.33%.
What should your company’s profit margins be?
Profit margins vary from one industry to the other. For instance, profit margins are less than 10% in the restaurant industry. In contrast, margins can be 80% or sometimes about 100-300% in the consulting industry.
As a general rule for profitable industries, like legal services, consulting, real estate, and accounting, an average margin is 10%, a high margin is 20%, and a low margin is 5%.
When it comes to eCommerce, there is no set profit margin, it all depends on the types of products you sell.
The importance of profit margins
The profit margin reveals if your prices are too low or too high. Also, it comes with the following benefits:
- Helps with financing – your business may have a compelling service, idea, or product. If you want to get a loan to grow, banks and other credit institutions want to know where the business margins stand before providing you with the loan.
Even though your company is making millions, lenders might not offer financing if they do not know how profitable the company is.
- Helps establish and resolve issues – profit margins can help identify problems you face while running your company.
For instance, low-profit margins may shed light on pricing errors, accounting issuers, or expense management issues. Usually, pricing errors might create cash flow challenges, which, in turn, can threaten your company.
- Helps with business growth – knowing your profit margins might help you determine underperforming products/services and practices as well as excessive spending. Typically, it is useful data to evaluate how the company is moving forward as it expands and grows.
How can you improve the profit margin of your eCommerce?
Once you know your company’s profit margins, you can improve them by:
Increasing your prices is not as easy as it may sound. You don’t just change the price of a $5 dollar product to $6. You need to research methods to price your products, the price offered by other retailers in the market and the industry. If your price increases too much and clients can find that same product cheaper elsewhere, you’ll start losing customers. Make sure not to overcharge the customers and set a price necessary for your company’s long-term survival.
Cut underperforming services or products
Sometimes retailers keep selling the same products for years and years. Maybe it’s because they have a personal connection to it, and that’s OK, except when the product doesn’t really sell. Ignore sentimentalism and stop selling products that underperform.
Stock up on popular products
Your sales report is like a medium that can see the future, so listen carefully to what it has to say. If one product is selling fast, make sure that you have enough in stock to keep the momentum going.
Understanding your company’s profit margins will help you find where the excess spending is happening. This will give you the knowledge to decide where you can cut costs. These costs can include shipping and cost of production
- Reducing the cost of production might involve: asking for a discount from suppliers by increasing your orders, or paying invoices in time or in advance.
- You can also ask your suppliers to give you a line of credit or that they charge you in installments. This can help to have a better cash flow and to reduce (at least momentarily) your expenses.
- Try to reduce shipping costs. I know that can seem like a tough challenge, but it’s not impossible. Look for the best offers in the market and choose one that is cheap and good quality.
Reduce overhead costs
Marketing, payrolls, administrative, and other general expenses are what’s considered as overhead costs. Having high overhead costs reduce your profit levels.
In order to reduce your overhead costs you need to make sure that your profits are enough to cover these costs and that, after paying for all of them, you still have some money left.
Imagine that you need a $1,000 customer support software. But is it a justified purchase? To know if it’ll be, you’d need to ensure that the purchase would help your business make $1,001. Be it by itself or by helping you achieve increased sales or by letting you cut costs in other areas. If not, then it’s not a profitable expense.
Diversify your inventory
One way to increase your profit margins is by selling new products. We don’t mean the newest model of what you’re already selling, but something completely new.
We don’t mean you need to start to sell something extremely different. No, you just need to do some market research and learn what your customers also want to buy that you can offer.
For example, if you sell videogames, you can start selling graphic tees. Videogame customers tend to love wearing t-shirts with fun images or clever phrases. So if you add that to your inventory, you could see an increase in sales.
Increase your sales
An increase in strategic sales translates can lead to a bigger profit margin. But how can you do it?
- One way is through repeated sales.
An initial sale to a client indicates their trust in your services. But you need to make sure to not break that trust.
Having a client buying your product gives you power, and all that you require is to leverage that power to increase your sales. Send promotional newsletters, discounts, or offer exclusive sales to your current customers to keep them loyal to your brand.
- Upselling is another great technique.
Having different versions of the same products is a great way to increase your sales, and it can help you increase your profit margins.
For instance, imagine your eCommerce sells mobile phones. Before the client is able to pay for his product, you might want to suggest a newer or more updated model. The product you’ll be suggesting is, of course, more expensive.
You need to convince the customer to spend more money. It won’t be that hard, as many customers do what we call impulse buying.
Managing demand and profit margins is what shows a successful business venture.
Business owners don’t just get successful in the blink of an eye. Luck is non-existent when it comes to the entrepreneurial world. But profit is not impossible, it comes with hard work and time.
In order to keep a good balance between the demand of your products, your expenses, and profits, you need to continuously monitor, assess and evaluate every single aspect of your business finances.
You might need to cut costs, increase sales, or even factor in a new product to increase profitability. But in the end, it will be worth it.
This does not mean that the profit margin is always perfect or to your desires. Unfortunately, the business world is often unstable, and you can expect changes now and then. But don’t let any lows bring you down, there will always be an up around the corner.
Are you ready to determine your profit margins now that you understand their benefits?
Make sure you know your industry and track profit margins to know where to take your business next.