Cash flow is the only real focal point for your small business. It’s a mistake to focus on sales volume because it’s not what you make that is important, it’s what you keep. What you keep is what fuels the next cycle of purchases and operating costs that sells more and ensures you can handle growth.
How do you know if you have a Cash Flow Problem?
Check out your Net Margin. This is the percentage of cash you keep compared with what you make in sales. So if you keep Rp 5 million on Rp 100 million of sales, your Profit Margin is 5%.
If you are earning less than 10% Net Margin then you can be pretty sure you have a cash flow problem. If your sales are increasing and your profit is increasing but your Margin is decreasing then you have a future cash flow problem. Around 90% of small businesses are operating with a Net Margin of less than 10%, but many don’t know it. Most businesses don’t measure what’s important.
Margin focuses on your profit in real terms. So how can you double it? The easy way, not the hard way. The way that frees up your time, not creating longer hours and more work.
When I ask a group of people what is the best way to double the amount of money they make, the usual responses are to either open more sales outlets or increase the range of products they sell. Because I am basically lazy I disagree with them. I don’t like unnecessary hard work. I like to work smarter, not harder.
The first thing to recognize is that any increase in sales price or any decrease in costs – both of these flow directly to the bottom line. An increase in sales volume usually increases expenses as well as sales and creates extra work.
Let’s take a hypothetical case of a typical small business with a sample profit analysis:
Cost of Sales 60,000
Gross Profit 40,000
Gross Margin 40%
Operating Expenses 30,000
Net Profit 10,000
Tax (25%) 2,500
Net Profit after Tax 7,500
Profit Margin 7.5%
There are six key things you can do to increase your profits.
Most of them cost nothing and are not hard.
- Raise your prices.
- Improve your conversion rates.
- Increase your average sale.
- Generate more leads.
- Plug the leaks:
- increase your staff productivity
- reduce your direct costs (ie cost of sales)
- reduce your overheads (ie operating expenses)
- fix your non-performers
- Increase your volume
This issue we will look at the first four options you can use to double your profits.
Option 1 – Raise your Prices
- Very rarely will a 10% increase in prices be noticed by your customers. Very, very few if any will stop buying. Better yet, the few that do stop are usually the customers who cause you the most grief and you are most happy to see go. Now with our example above, that extra 10,000 flows straight to the bottom line and immediately doubles your profit and your margin goes to 13.6%.
Option 2 – Improve your Conversion Rates
- With one client we started measuring conversion rates of shop visitors to sales and showed the shop staff. The rate then was 28%. Without doing a single another thing the rate quickly climbed to 35%, just because shop staff were aware and tried harder. Add training in customer behavior (Google DISC) plus some discount sales strategies and we went to 48%. That was a 71% increase in conversions without spending a cent after initial training costs. We will be conservative and allow for a 30% sales increase. This can still be improved. A good product with good salespeople can convert qualified leads at around 80%.
- Discount sales really work – they get more people into your store and convert more visitors into buyers. Your sales will do even better when your price tag shows both the old price and the sale price. Same works for wholesale catalogs. Combine these sales strategies.
- With menus, people’s eyes typically go to the top right corner, and that’s where the best profit margin items should be,
Option 3 – Increase your Average Sale
- Max out on cross-selling and up-selling. If you are not already making the most of these sales techniques, here are some examples you can immediately use:
- Over 30% of people who have just bought are responsive to an immediate offer, especially for a related item. That’s why supermarkets have lots of small value items just near the cash register. Try it. Your typical up-selling item is typical of lesser value, so let’s convert that 35% of customers to 10% sales value increase, converting to approximately 4% net margin increase.
- One nursery famously said we are not in the business of selling plants, we are in the business of selling homes. The hole takes the plant, a watering system, fertilizer, support stakes, how-to books and generates a desire for similar holes. Similarly, a florist just selling flowers is missing out on the opportunity to sell décor.
- Do you have a sign in your business that tells people you accept credit cards? A Visa or MasterCard sign has been shown to make people more amenable to purchase.
- Put more focus on items that encourage companion selling. Do you sell jewelry and have matching pendants and bracelets for your earrings?
- Understand the way that psychology pricing works:
- Change your pricing strategy. Studies have shown that prices ending in 9 (but not 09) can increase sales by over 20%. That’s when people are buying on value. If they are buying for quality then prices ending in zero are more effective.
- Offer packages of product, but include a nonsense middle point item at the same price but of lesser value that helps reinforce the value of the package.
- Offer service policy options where a shorter period is obviously not as much value.
- Offer anchor point products – these are high priced items that tend to make the rest of the range seem infinitely reasonable. The Rp 100k hamburger sells lots of Rp 70 K steaks, the high priced vitamin supplement helps sell lots more of the mid-range ones.
- Improving the décor of your retail outlet reduces complaints of high prices and gives the impression that your range is much more reasonably priced. With one client a Rp 100 million redecorating investment was recouped within 8 months and complaints dropped by over 90 percent.
Option 4 – Generate More Leads
- What sort of incentives are you offering your existing customers to generate leads for you? Not cash, but some form of the present that has a much higher perceived value than it’s actual cost.
- Who can you partner with? We want another business that has lots of leads already that you could take advantage of. And we need to give them back an offer too good to refuse.
- Advertising is the most common form of generating leads. Can you measure how cost-effective your advertising is? Do you use special phone numbers and email addresses, or different website landing pages to measure effectiveness?
- Use Facebook and your web blog and twitter to generate more leads.
- A 30% increase in leads would generate approximately a 15% increase in sales, based on our 48% conversion rate.
What is the impact of applying just a part of these four options on our sample business?
Note I added 25% more expenses to cover the additional staff for the increased workload.
|Cost of Sales||60,000||60,000||78,000||85,800||98,670||64%|
|Net Profit after tax||7,500||15,000||18,750||23,625||31,669||322%|
Our Net Profit didn’t just double! It went up four times, while our Net Margin nearly tripled.
Note how the increases compound on each other. It’s the cumulative effect that is key.
But Wait!! There’s more!
Next issue we will see how much more money you can make by plugging the leaks and increasing volume. And we will consider what are the most cost-effective investments you can make to grow your business.
Is there is any aspect of developing a successful business you would like me to write about?