Why does high turnover not mean high profits?

Every entrepreneur wants his business to bring in more money. And he knows the universal recipe: to make more profit, you have to increase turnover. But sales are growing, and profits are getting smaller and smaller. The company’s financial situation is deteriorating before his eyes. What happened?

Let’s look at why higher turnover doesn’t always mean higher profits.

How the increase in turnover can lead to a loss of profit

An entrepreneur trades in retail. Once the business came to a stable income, the owner decided to increase the turnover. He expanded the retail space, bought equipment on credit, hired additional staff, and launched advertising. Customers became more, the proceeds increased.

A month went by, the entrepreneur counted the profits: the money was less than usual. It seems to be all logical: the time was not enough and investments simply did not have time to recoup – you need to wait a little.

Another month passed: the volume of sales continued to grow, but profits were even less. What was the problem? The entrepreneur compared the financial results of the last three months and saw the following picture:
The essence of the problem was as follows: the rate of growth of costs exceeded the rate of growth of revenues. Therefore, in the process of increasing turnover, the company began to rapidly lose profits. To understand why this was the case, you need to break down each indicator.

Problems with increasing turnover

Decrease in price

Our entrepreneur made a bet on the growth of sales and announced a good discount for customers in the advertisement. On how to properly make discounts to stay in the black, we told in a separate article.

Although a lot of goods were sold, the increase in revenue was insignificant.

A month had passed since the start of the promotion and demand was saturated. Most customers who felt the need for the product had time to buy it. Therefore, the next month the discount was no longer triggered and the sales increase was small. That is, the entrepreneur was wrong in assessing the capacity of the market and his expectations were not met.

Sometimes, when increasing turnover, it is impossible to avoid lower prices. For example, when expanding the retail business into the wholesale sector. This segment of the market is more capacious and gives the enterprise more opportunities. If goods, products or services are competitive and all business processes are built correctly, then profit will gradually increase. But it will not happen overnight. And in order not to send the business into a protracted period of no money, you need to calculate your financial capabilities in advance.

Growth of costs

Increase in turnover is always accompanied by an increase in costs. Some of them are directly stipulated in the cost of production. Let’s analyze how the cost of goods changed for our entrepreneur:

The cost price went up. The supplier did not raise prices. But transportation costs have increased markedly. After all, there was more cargo, so a vehicle with a greater load capacity was required, plus delivery was more frequent. And since the entrepreneur not only didn’t raise the selling price, but also set a discount, he lost noticeably on the gross profit.

But that’s not all. The entrepreneur’s commercial expenses also went up:

When it is better to refuse to increase turnover

Sometimes already on the basis of the planned calculations it is clear that the increase in turnover in a particular direction is not profitable.

For example, the owner of the canteen decided to increase sales by centralized delivery of hot meals in business centers. But the calculations showed that the output of the new direction will require too much expense. You need more productive equipment, additional staff, more raw materials. Will need to organize delivery. In this case, the price of food must be lower than when selling at retail. As a result, costs will eat into the profits and large sales volume will not fix the situation.

In addition, payment from customers will not come every day, but once a month in the contract. That is, the business will constantly be faced with cash flow gaps, because fresh raw materials must be purchased daily. It is necessary to provide for possible cases of late payments, then the money will hang in accounts receivable.

The entrepreneur calculated the budget, weighed the pros and cons, and realized that developing this line of business would not be feasible. He decided to temporarily abandon the build-up of turnover, save up the money, and then direct it towards opening another catering facility.

How to avoid falling profits

Never increase the volume of sales for nothing, do it only to increase profits. Do not confuse the size of the business with its efficiency.

Increasing turnover – a strategy for business development. And strategy implies analysis and planning. In this preparatory stage it is necessary to:

Evaluate the capacity of the market: whether the company can increase sales in its segment, direction, local location.

For example, a mini-bakery is located in a remote residential complex, there are no competitors nearby. The facility is still operating at half capacity and produces 250 kg of products per day. By evening the bread is bought up without a trace, and some visitors leave empty-handed because the desired product has already run out.

The complex has a population of three thousand people, mostly young families with children. An average family of three eats 0.5 kg of bakery products per day. The daily capacity of the market = 3 000 / 3 * 0, 5 = 500 kg. That is, the bakery can run production at full capacity and increase sales

Calculate all costs, make a detailed budget.

Find the point of maximum profit when the difference between total revenues and total costs reaches a maximum value, and then begins to decline.

For example, the entrepreneur has a law office in a business center, it also employs two more lawyers. The net profit per month is 80 thousand rubles. The entrepreneur wants to expand the staff and increase sales, but the office will include no more than two additional jobs. If you hire two more lawyers, the profit will grow to 130 thousand rubles. This is the point of maximum profit. If you take three lawyers, you will need to rent another room, so the costs will rise sharply, and profits will drop to 100 thousand rubles. Hiring more workers is inexpedient, since the capacity of the market is limited.
As the volume of sales grows, it is necessary to regularly compare the planned calculations with the actual data. After all, if the strategy fails to justify itself, the owner will need to respond promptly to the situation to prevent future losses.

Our service makes it easy to plan budgets for projects – and see deviations of planned figures from the actual in time. The program itself calculates the financial result and profitability, so that the entrepreneur sees the real state of affairs at any time.

Leave a Comment

Your email address will not be published. Required fields are marked *