Gross profit -
Is the amount of money the business makes after the direct costs of making/selling its products or providing its services, otherwise known as its costs of sales, are deducted from its sales revenue
Net profit -
Is the profit the business generates after all other operating expenses and interest, not included the calculation of gross profit, have been paid
Gross profit formulae
= sales revenue - cost of sales
Net profit formulae
= gross profit - other operating expenses and interest
Cost of sales/cost of goods sold -
The actual value of inventory used to generate sales
Cost of sales formulae
= opening inventories + purchases - closing inventories
Examples of business expenses (3)
- Salaries
- Rent
- Electricity
Ratio analysis:
Reviewing the gross and net profit figures will tell business owners/managers how much profit a business has made in a specific time period. One way to judge how “profitable” a business is to calculate profitability ratios.
Gross profit margin
This is the percentage of sales revenue that is gross profit. This means what % of your sales revenue are you turning into Gross Profit. The higher the % the better for the business.
= gross profit/sales revenue x 100
How to improve gross profit margin (2)
- Increase sales revenue
- Lower cost of sales
Increase the business sales revenue (GPM) (3)
- Lowering the selling price may increase demand
- Increasing the price may generate more revenue
- Increase awareness of the product
Lower the costs of sales (GPM) (3)
- Cut down on the price paid to suppliers through renegotiating with existing suppliers
- Change suppliers, if another supplier can offer cheaper prices
- Review their existing products and see if they could be made more cheaply to cut costs
Net profit ratio
This shows what % of your sales revenue are you turning into Net profit. The higher the % the better, however remember that this will be lower than your gross profit margin.
= net profit/sales revenue x 100
Improving the net profit margin (2)
- Increase sale revenue
- Lower expenses
Increasing sale revenue (NPM) (3)
- Lower the selling price
- Increase the selling price
- Increase awareness of the product through promotion, but the expense of this needs to be carefully monitored in terms of the impact on revenue and net profit
Lower expenses (NPM) (4)
- Delayer the organisational structure
- Review salary structure or bonuses
- Freeze recruitment
- Move to a cheaper location
Which ratio is better?
The net profit margin (%) is a better indication of a business’s financial performance, as the ratio takes into account all the other operating expenses/interest of the business. In contrast, the GPM (%), only takes into account the cost of sales.
How to access financial performance (4)
- Targets
- Previous years figures
- Competitors performance
- Stakeholder objectives
Performance ratios (2)
- Gross profit margin
- Net profit margin
Business investment -
- when money is used to purchase an asset that is expected to generate a return of income or profit
Types of business investment (3)
- Land and buildings (usually required when the first starts up or when it expands)
- Machinery (needs capital to produce)
- Vehicles (cost effective, modern and reliable transport network can reduce costs and improve profitability)
Average rate of return (ARR) formula
Average annual profit/cost of investment x 100
ARR compares the…
…projected average annual profit of an investment in its expected life with the cost of the investment; expressed as a %.
Average annual profit =
= total profit/number of years
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Marketing mix60
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Business growth28
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The purpose of business operations / production processes15
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Ethics, environment23
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Managing stock12
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Finances27
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The role of procurement - relationship with suppliers13
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Organisational structures20
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The importance of effective communication11
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Different ways of working mine / Motivation43
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Different job roles and responsibilities15
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Managing quality14
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Effective training and development16
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The sales process20
