What number on your income statement is the most important to be accurate after your top line sales?
Undoubtedly this is your gross margin dollars and as a percentage of top line revenue because this determines the level of overhead that the business can support while remaining profitable and developing the business for future growth. So this leads to the question:
Do you know the margins on your product lines and/or products and services?
Most will say yes, I do. However this is not as simple as it may seem as it depends on multiple variables such as:
- How your products are costed in your accounting software or manual systems.
- Do you have Bills of Material to calculate the material or component costs of your products?
- How is labor cost allocated to product lines, products or services?
- Is production overhead expense allocated to product lines and products, and if so, how is this done?
- Are selling prices net of discounts and sales commissions?
- Is distribution cost to your customers reflected in the margins?
It is our contention that dysfunctional decisions on selling prices to the market are often caused by the fact that many of the market participants are not costing their products and services with the same methodology and therefore their perceived margins or lack thereof do not compare correctly. For example some participants may simply use a “back of the envelope” method for making an overhead allocation while others may use a sophisticated activity based costing method. This being said, all participants aim to be competitive in the market place, but market information on pricing is far from perfect or reliable in many business to business transactions and hence participants may be pricing their products too high and losing volume or too low and losing margin.
When it comes to cost and margin calculation, we have been there and done that. We are here to help.
Contact us for a free consultation at firstname.lastname@example.org or phone at 704 491 5201.