What’s more important – sales or gross profit?

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(Photo credit: Gerard Stolk (vers l’Avent))

Small business consultants and advisors are hammering home the message that sales are vital in this economy. You can still rescue your small business with that one crucial sale, they say. But is sales the most important thing for your business in this economy?

It might seem an almost stupid question to ask. Sales drive everything in a business. But a handful of real-world, hands-on consultants and advisors to new small businesses point out that gross profit has a more important role to play because it pays for your overheads. If your business has more gross profit it is easier for you to pay for your overheads and your net profit should be higher. It’s also true that small changes in gross profit can have a large impact on your profitability.

Let’s look at gross profit to see what impact it makes on overall profitability. You can achieve a large sale but if your cost of sales or two are too high you may not even be able to pay for your overheads which would then seriously jeopardise the survival of your business. Gross profit depends on the value and volume of your sales, the value of your purchases, discounts on your purchases, increases from your suppliers or higher material costs.

If you go deeper into your gross profit, you will find that there are a number of things that affect what you are able to charge for your product or service. For example, if you have quality products, you can charge more. If your product positioning is not effective in your specific target market, you may not be able to realise higher priced sales which, in turn, would reduce your gross margin.

Net profit is actually what you want to be concerned about because it depends on your overheads which are made up of fixed and variable costs. You may be able to realise a high gross margin, depending on customer demand for your product or service, but your overheads can quickly erode your net profit.

One way to deal with this argument between sales and gross profits as well as net profit is through an analogy. Let’s take a jazz band as an example. The jazz band consists of a number of key players. All these players have special roles in the band. If one player does not play their note at the right time and at the correct tone, the music will sound flat or awful. Just as each player needs to deliver the right note at the correct tone, sales, gross profit and net profit need to be in harmony with the overall strategy and objectives of the business.

For better insight into each of these key performance measures in your business, it might be profitable for you to do a SWOT analysis of sales, gross profit and net profit to identify your opportunities and minimise threats.

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