EKM Homepage eCommerce Blog by EKM
EKM Homepage eCommerce Blog by EKM
Blog menu

Why choose profit over turnover

I often read about these young business owners that have just made their first million. I get hooked, I read all about it and then check companycheck.co.uk to see that these millionaires have just turned over a million. I’m sorry to be that guy, but that’s not making a million. If you sell prestige cars, then a million in turnover isn’t actually that good. If you sell marbles, then that’s a different story and well done! BUT it still doesn’t mean you’ve made one million pounds. Now I’m sure that there are people out there in these articles that are actually making a million personally but most of the time it’s just the turnover. You can make a million pounds in turnover a year and still be in debt. Now if you were to make one million pounds in profit then that’s a different story. Although it still does depend on how much of the company you own.

Turnover is vanity, profit is sanity and cash flow is a reality.

In a nutshell, focusing on turnover is not the answer. You can have all the orders in the world but if the business is spending more than it makes then the business will not last at all.

Making a million pounds in turnover is not the same as putting a million pounds in your pocket. Out of that million pounds, you need to pay for the product, staff, premises, tax, VAT and all the other costs. What you actually put in your pocket if you are the only shareholder is likely nowhere near a million pounds. (Depending on the type of business you’re in)

On top of all that, if the business is growing then you’ll need to invest anything that is left over into more stock, bigger premises, more staff etc. The result of this is often while your shop is growing, you’ve got no cash flow.

I’ve been there myself. I tried to keep us under the VAT threshold until I knew that we could double our turnover. It was Christmas time and I couldn’t control it and we went over 70k. From then on I had no option but to go for it. Sometimes it’s hard to pull back on growth when everything seems to be doing so well. But sometimes it’s exactly what you need to do. Growing too fast, particularly in start-up stages (Within the first 2 years) can be really dangerous. You need to know signals and when to take a step back and think about where you are heading. It can also happen with larger businesses that have been around for decades that think they have found the “the next big thing” and invest heavily into something could potentially destroy them. (sometimes it can pay off).

If your business is growing sales rapidly it’s usually down to low prices and being cheaper than everyone else (Usually). In my opinion, it’s a great way to start. One of the hardest things in business is getting customers. What I did was start out as an affordable brand and then started to raise my prices in a very natural slow way. I didn’t just wake up one day and double my prices due to someone on a blog telling me to. If your customers like what you’re selling, then they will stick with you if your service is second to none and they have no other reason to go to anyone else.

So how do you get your margin up gradually without losing customers?

Okay, so there is only really two options. Again this is more directed at the buying and selling market but it can still apply to other businesses too.

1) Increase your margin. As simple as that really. If you’re in a super competitive market and you can’t afford to raise your prices, then you need to add more value to your products. You can do this by either giving the customer an extra item with the sale, free shipping or just give them a better service. If you still can’t do that, then move onto option number two.

2) Get better deals for everything. Not only better deals on your products but better deals on your shipping rates, rent and any other overheads that are negotiable.

If you can’t do either of the above and you’re in a super competitive market then you need to really think about what it is that you want from your business. Maybe start to look into other products that you can sell a bit cheaper and then get people interested in your main products. You see this all the time on places like eBay.

TURNOVER EXPLAINED

Turnover is a word that accountants use to describe the level of business over a specific period of time, measured through the value of sales. It’s often used as a quick, simple measure of the size of a business. For example, HMRC uses the turnover to determine whether a business should register for VAT. There is no direct link between the level of turnover and the health of your business. How much profit it makes, the quality of its balance sheet and its ability to control cash flow are not reflected in the headline sales figure.

Your business can have income from various sources. Turnover refers to income from trading, which is the main activity of the business. For a retailer this will be the over —the-counter sales; for a recruitment business, it’s the value of fees for successful placements. The turnover figure includes all regular trading income, including that from non-core activities. For example, turnover for a supplier of computer hardware will largely be from sales of equipment but could also include a small amount of income from consultancy and support, if they provide these services on a chargeable basis. Turnover does not include the VAT you charge on sales and it is net of discounts. It also excludes non-trading income, such as interest on savings and investments, or the profit on the sale of assets. These are reported separately.

Turnover is not a measure of success

Although turnover is one measure of the size of your business, it’s not an indicator of success. Every business makes sales but not all are profitable. The increase or decrease in turnover over time gives an indication of how well a business is growing. But even when the level of sales remains static, the turnover may increase slightly, year on year. This can be due to prices being pushed upwards by inflation. To understand why the level of turnover is changing requires a more detailed look at where the sales are coming from.

Retailers are particularly careful to compare like-for-like sales, the turnover coming from the same stores or product lines over the same period of time. If they’re opening new branches their turnover should be going up, but that could mask a decline in sales from older stores or across the entire market. This is why Management Accounts are important. They’re financial reports designed to give management information about how the business is performing and which allow them to make informed decisions.

Turnover and cash flow

There can be a significant difference between the turnover of your business and the amount and rate of cash coming in. In a retail business where most or all sales are paid for immediately, there is a clear link between turnover and cash coming in. But many firms, particularly business to business suppliers, sell on credit. This means that payment might be made weeks, even months after the sale occurred. It also means there’s a risk of some sales never being paid for and becoming bad debts.

Cash flow management is particularly important for businesses in this situation, particularly where they need to pay their suppliers before they, in turn, get paid for sales. A growing turnover means there’s more money due to be collected in the future, but there are also more bills to pay now. This could lead to major cash flow problems if the business doesn’t have enough working capital in place.

PROFIT EXPLAINED

The most basic explanation of profit is any revenue minus expenses. It’s not always that simple of course. Since expenses can take quite a few different forms, but at the end of the day, the way that you find how much profit your business is making is to subtract total revenue from total expenses. There are a few different types of profit, depending on exactly how much is subtracted from gross revenue.

Gross Profit

The first type of profit that businesses concern themselves with is gross profit. Gross profit is simply revenue minus inventory expenses. For example, if you operate a retail store, you can find your yearly gross profit by subtracting the money that you have spent on stock for the year from the total amount of money that you have made all year. Again, gross profit does not tell the whole story, but it can be a useful tool for quickly examining your finances to see how profitable your business would be if you ignore all other expenses.

Operating Profit

Operating profit is similar to gross profit, but it takes many other costs into account. In order to find your operating profit, you first figure your gross profit as we explained above. Then you subtract operating costs like rent, labour, utilities, and other fixed costs. That leaves you with your operating profit.

Net Profit

Finally, net profit is the amount of money that is left in your account at the end of the year after subtracting every single business related cost from your revenue. In order to find your net profit, first, you have to calculate your operating profit. After you know what your operating profit is, you subtract one-time expenses. Some examples would be an advertising campaign that your business tried once and decided not to continue, legal fees, and various other rebates and irregular expenses. At this point, if you had not added them into your revenue earlier, you can also add one-time profits from the sale of assets, special offers, or other one-time business transactions that net your business money.

In summary, make sure that your try to focus on how much profit you’re making. Don’t get delutinal by turnover, it’s great to go round saying that your business turns over X amount but really it’s  not an indication of how well your business is actually doing. If you could leave this blog with any advice at all it would be to become a pro at numbers. Every single time you sell something, you should know exactly how much profit you’ve made on that product.

What are you waiting for?

Your own successful online shop is just a click away