Profit Margin

Revenue growth does not show whether a business is getting healthier or just bigger. Margin shows how much of each pound the owners keep. A business can add customers and still earn less, if each new one costs more to win and serve than the last.

Margin also sets the limits of what a business can do. A 10 per cent net margin leaves little room for a bad quarter, a price cut or an investment in new work, while a 30 per cent margin leaves a lot more. Lenders and buyers look at it for the same reason: it shows how much can go wrong before the business loses money.

Compared across clients or services, margin shows where the money is made. The largest client by revenue is often not the most profitable one.

1. Total all revenue and all costs for the period, including easy-to-forget ones such as contractors and subscriptions.
2. Divide profit by revenue and track the result monthly.
3. Compare margin by client, product or service. A blended figure can hide a loss-making line.
4. Set a target margin before pricing a new offer, then price to hit it.

Profit margin is profit divided by revenue, multiplied by 100. If a business earns £200,000 and has £170,000 of costs, profit is £30,000 and the margin is 15 per cent.

The word "profit" can mean different things, so the margin changes with the stage chosen:

• Gross margin uses revenue minus direct costs only.
• Operating margin also subtracts running costs such as software and salaries.
• Net margin subtracts everything, including interest and tax.

Say which one is meant. A 70 per cent gross margin and a 10 per cent net margin can describe the same business.

• Confusing margin with markup. Markup is profit divided by cost, so the same sale gives a higher number.
• Ignoring the owner's own time, which makes margin look better than it is.
• Judging a month on its own. Annual bills and project timing swing single months.