Your Sales Haven't Fallen - So Why Is Your Profit Disappearing?
Written by: Melissa Cunliffe (CA)
Australian businesses can be busy, growing revenue and still keeping less. Here is where to look.
You're busy. Customers are still coming through the door. Your team seems to have more work than ever. You look at your sales figures, and they are actually higher than last year.
So why does it feel as though there is less money left?
Recent Australian business surveys have shown profitability under pressure even while many businesses remain active. In plain English: businesses are still doing the work, but they are keeping less of the money.
Turnover is not profit
Imagine last year your business turned over $2 million and this year it turns over $2.2 million. Sales are up 10%.
But during the same period wages, super, insurance, suppliers, fuel and interest all increase. You add another employee to handle the work. Profit falls from $250,000 to $180,000.
Revenue has risen by $200,000 but the owners are $70,000 worse off.
That is why the question should not simply be “How much did we sell?” It should be “How much did we keep?”
The dangerous feeling of being busy
Being busy feels productive. Phones ring, jobs are booked, employees work overtime and invoices are raised. But sometimes being incredibly busy is hiding a profitability problem.
A business can sell the wrong work, to the wrong customers, at the wrong price, using too many labour hours, with too much rework or on payment terms that make the business finance the customer.
More revenue does not automatically mean more profit. In some businesses, more revenue can make the cash-flow problem worse.
Where is the money going?
1. Prices have not kept up with costs
A supplier increases prices. Wages rise. Super rises. Fuel and insurance rise. But the business leaves its own prices unchanged because it worries about customer reaction.
Margins are squeezed a little on each sale until the total impact becomes significant.
A $3 million business with a 30% gross margin produces $900,000 of gross profit. If that margin slips to 27%, gross profit falls to $810,000. Revenue has not changed, but $90,000 has disappeared.
2. Labour costs are rising faster than productivity
Higher wages are not automatically a problem if output rises too. The issue starts when labour cost increases faster than the value the labour produces.
Look for excessive overtime, waiting, poor scheduling, rework, manual administration, inefficient systems and employees spending time on work below their skill level.
This is not about pushing people harder. It is about removing the things that stop good people doing valuable work.
3. Overheads have crept up
Growth can justify investment in vehicles, premises, software, managers, admin support and equipment. But recurring costs accumulate quickly.
Every additional $1,000 per month is $12,000 a year. Ten such decisions create $120,000 of additional annual overhead.
4. Some work is not actually profitable
A high-revenue customer is not necessarily a good customer.
A service producing $500,000 of revenue at a 40% margin generates $200,000 of gross profit. Another generating $1 million at a 15% margin produces only $150,000 - and may consume far more admin, equipment and working capital.
Good management reporting needs to identify which customers, services, locations and work types actually make money.
5. Interest has quietly eaten the bottom line
If a business carries $2 million of debt, a 2% increase in borrowing cost adds $40,000 a year of interest. The business has to earn another $40,000 simply to stand still.
6. Profit and cash are different
Profit can be tied up in debtors, stock, work in progress, loan repayments, equipment, tax liabilities or owner drawings.
A $300,000 accounting profit does not mean $300,000 should be sitting in the bank.
That is why one of the most valuable questions an accountant can answer is: “Where did the profit go?”
Tax is not always the problem
Business owners regularly say they are paying too much tax. Sometimes tax planning opportunities exist. But tax can become an easy explanation for a larger commercial issue.
If a company earns another $100,000 of taxable profit and pays approximately $25,000 in company tax, it still retains approximately $75,000 of additional after-tax profit.
Tax did not make the business poorer. Making less profit does.
A two percentage-point improvement in gross margin on a $5 million business is $100,000. Every year.
What should business owners measure?
You do not need a 40-page management report. Start with a small number of meaningful measures:
• revenue and customer/transaction volume;
• gross profit dollars;
• gross margin percentage;
• labour percentage;
• overheads;
• debtor days;
• interest cost; and
• how much reported profit converts into cash.
Do not wait until annual accounts reveal that margins collapsed nine months earlier.
Before chasing more sales, fix the leak
When profitability falls, the natural response is often: “We need more work.”
Sometimes that is correct. But first ask what happens if you push more revenue through the same broken model.
If jobs are underquoted, winning more jobs does not fix the problem. If labour is inefficient, adding more people does not fix it. If customers do not pay, selling more to them does not fix it.
Before filling the bucket faster, fix the holes.
Where the 4P's Future Prosperity Framework fits
At 4P's Future Accounting, advice starts with People. What is the business supposed to provide for the owners and their family - more money, more time, less stress, confidence about employing another person or a business that can eventually be sold?
Then we Preserve by stopping unnecessary profit leakage, Protect by improving cash reserves and managing debt and tax obligations, and Prosper by improving margins, productivity and decision-making.
The goal is not to build the business with the largest turnover. It is to build the business that helps its owners achieve their definition of success.
If your turnover increased last year but you feel as though you worked harder for less, do not automatically assume you need more customers. Look underneath the revenue line. The answer may already be sitting in your numbers.
Before chasing more customers, it may be worth finding out where your existing profit is being lost. Rising costs, shrinking margins, inefficient labour, overheads and debt can quietly erode profitability even when revenue looks healthy.
Book a consultation with 4P's Future Accounting today to review your numbers, identify potential profit leaks and find practical opportunities to improve margins and build a more profitable business.
Disclaimer
This article does not constitute financial advice and is for general information only. It does not take into account any individual’s personal objectives, situation or needs, and is not intended as professional advice. Any similarity to an individual’s personal circumstances and the examples provided in this article is purely coincidental. Any person acting upon such information without receiving specific advice, does so entirely at their own risk.
Authorisation under an Australian Financial Services Licence (AFSL) is not required in the provision of this article and the author plus Future Accounting Group Pty Ltd is not acting in its capacity as an Australian Financial Services Licence holder
Liability limited by a scheme approved under professional standards legislation.
