How a 10% change can add 61% to profits

When talking to clients, I’m often asked about ways in which to increase profits. A lot of business owners simply look at two factors; one being increasing sales and the second being reducing costs. I suggest that there are actually five areas to focus on when looking to increase profit and these are:

1. Leads – These are the number of people that make contact with your business or have been contacted by the business with the potential to make a purchase.
2. Conversion rate – This is the percentage at which leads become paying customers, so if you have a 100 leads resulting in 25 customers, the conversion rate would be 25%.
3. Average sale price – This is calculated by working out the total sales value divided by the number of individual sales, so if you had £100,000 worth of sales made up of 500 individual sales then the average sale price would be £200.
4. Average number of transactions- This is the average number of purchases a customer would make in a year.
5. Profit margin – This is the percentage profit made on a sale. If you sold an item for £200 and made £40 profit the gross profit margin would be 20%.

Below is an example of how this would flow through in a business in which in a year they have 2,000 leads with a 20% conversion rate to customers. The business also has an average sales price of £300 and it is expected that on average a customer will purchase twice a year and from this the business will achieve a gross margin of 20%.

2,000 leads x 20% conversion rate = 400 customers

400 customers x £300 x 2 purchases a year = £240,000 turnover

£240,000 x 20% gross margin = £48,000 profit

So what would be the impact on the business if we looked to increase the five factors above by 10%? A 10% increase in profits? No, the actual increase would result in a 61% increase in profits, take a look below.

2,200 leads x 22% conversion rate = 484 customers

484 customers x £330 x 2.2 purchases a year = £351,384 turnover

£351,384 x 22% gross margin = £77,304 profit

The reason for this is that each 10% change has a compound affect on profit and can have a huge impact. If you swap 10% for 20%, this would lead to a 149% increase in profits. Whilst this is not necessarily an easy task it is one that every business should sit down and see what strategies they could implement under each category to move their numbers.

If you would like to talk about how you can grow your business please do get in touch.

Grant Smith, Partner