As expenses rise and the economic climate shifts, profit margins are dwindling for small and midsized businesses across the country. While many have raised their pricing as a means of maximizing profitability, the approach can backfire and may not be right in every situation. In this guide, we’ll explore business profitability strategies you can use to support your company’s long-term health and growth without putting your customer relationships at risk.
Profitability in Small to Mid-Sized Businesses: A Quick Overview
Everyone knows that profitability is essential for businesses, but ensuring you stay profitable is easier said than done. Before we get into profit margin optimization, let’s explore the basics a bit.
Key Types of Profit
Profit is typically measured in three ways. Each offers a different view of your business performance.
- Gross Profit: Your gross profit is a measure of how much money remains after subtracting the direct costs of producing goods or services from your revenue.
- Operating Profit: Your operating profit reflects what’s left after you deduct overhead and routine business expenses from your gross profit.
- Net Profit: Your net profit shows the final amount your business keeps after all costs, taxes, and interest have been paid.
Challenges that Undercut Profitability
Smaller businesses often face narrow margins and limited flexibility, which makes it harder to absorb cost increases, weather late payments, or reinvest in new opportunities.
- Low Profit Margins: The average net margin is around seven percent, according to NYU. This means even a minor shift in expenses or revenue can erase your gains.
- Unstable Cash Flow: You can be profitable and still not have cash on hand, which can impact your ability to cover daily expenses and grow. Because of this, 82 percent of small businesses that fail can trace their issues to cash flow management, Forbes reports.
- Overlapping Roles: Owners and managers often handle operations, sales, and finance themselves. This limits the time that’s available to focus on maximizing profitability.
- Fixed Expenses: Rent, payroll, and utilities stay constant, even when sales slow down. If revenue dips, these costs quickly eat into your profit.
Strategies to Increase Revenue and Improve Profit Margins
Businesses that want to improve profit margins often start by increasing revenue. Below, we’ll explore a few revenue growth strategies that can help.
Diversify Revenue Streams
Relying on a single income source puts your business at risk. If demand shifts or competition tightens, your entire model can become unsustainable. Diversification builds resilience and opens the door to new profit centers.
- Add Complementary Services: Consider what else your customers may need once they buy from you.
- Create Tiered Offerings: Introduce premium, standard, and budget versions of your core offering. This allows you to serve different customer segments without lowering your prices across the board.
- Explore New Channels: If you currently sell only through one method, consider expanding into another area that will allow you to increase your reach without adding major overhead expenses.
Optimize Pricing Models
Many businesses underprice their products or services out of fear that they might lose customers or be undercut by competitors. If your business is in this group, small adjustments can have a big impact.
- Review Costs Regularly: Costs change. If your prices remain static while expenses rise, your margin shrinks. Make price reviews a scheduled part of your operations.
- Test Value-Based Pricing: Instead of pricing based on cost alone, consider what your product or service is worth to your customer. It may support a higher price if it saves them time or reduces risk.
- Use Strategic Discounts: Be wary of offering blanket discounts, as they can erode profit margins. Instead, offer limited-time or volume-based promotions that are tied to specific business goals, like clearing excess inventory or boosting early renewals.
Enhance Customer Retention
If you aren’t applying customer retention strategies, you should be. It can cost up to 25 times more to acquire a new customer than to retain an existing one, according to Harvard Business Review (HBR). Plus, loyal customers tend to buy more often, spend more in each order, refer others, and cost less to serve over time.
- Strengthen Onboarding: A strong start improves satisfaction and reduces early churn. Ensure customers know how to get value from what you offer as soon as they start leveraging your products or services.
- Stay Engaged: Regular follow-ups, personalized communication, and proactive service can all help keep your business top of mind and ensure a smooth experience.
- Create Repeat Incentives: Loyalty programs, subscriptions, and reordering tools make it easier and more appealing for customers to come back.
Reduce Operational Costs to Boost Profitability
Reducing business expenses is one of the most direct ways to improve profitability. However, it’s essential to identify areas for cost management that can improve efficiency without weakening your customer experience or limiting your growth potential.
Audit Your Spending
Find out where your money is going before you begin applying cost-cutting strategies.
- Review Recurring Charges: Subscriptions, software licenses, and service contracts can quietly balloon over time. Cancel anything that’s unused or redundant.
- Compare Vendor Rates: Pricing for supplies, freight, insurance, and other services vary widely. A competitive review every year or two can help you identify savings opportunities.
- Track Category-Level Costs: Group expenses by function, such as sales, operations, or administration, so you can see which areas are growing disproportionately.
Improve Internal Business Efficiency
Operational waste often hides in everyday routines. Streamlining how work gets done can help you lower costs without reducing output.
- Automate Repetitive Tasks: If your team spends hours entering data, tracking time, or processing orders manually, automation software can reduce labor costs and errors.
- Standardize Processes: Inconsistent procedures can create confusion and waste time. Documented workflows help teams move faster and reduce rework.
- Invest in Training: Skill gaps lead to mistakes and delays. Improving employee training often pays for itself by reducing inefficiency.
Control Variable Expenses
Unlike rent or salaries, some costs fluctuate with your level of business activity. These are easier to adjust but still require attention.
- Monitor Inventory Levels: Excess inventory ties up cash and leads to spoilage or obsolescence. Just-in-time restocking and better forecasting can reduce waste.
- Limit Overtime: Occasional overtime is fine, but frequent use may signal a need for better scheduling or staffing.
- Outsource Select Functions: For roles that do not require a full-time hire, such as bookkeeping, marketing, or IT support, outsourcing can help reduce overhead costs.
Financial Planning for Profit Maximization
Financial planning gives you the framework to understand where your business stands today, where it’s headed, and how to course-correct before small issues become major setbacks.
Set Clear Financial Targets
To boost profitability, you need specific, measurable targets that guide your daily decisions.
- Define Profit Goals by Period: Break annual targets into quarterly and monthly benchmarks so you can identify trends and react early.
- Tie Goals to Activities: Link sales goals to lead volume or close rates. Link expense targets to specific departments or functions.
- Review Targets Regularly: Business conditions change. Ensure your goals reflect the current environment.
Build and Maintain a Cash Flow Forecast
Understanding your cash position is essential for effective planning. A cash flow forecast helps ensure that you can meet your obligations while pursuing growth.
- Project Income and Expenses: Include all sources of revenue and all fixed and variable costs.
- Update Frequently: A static forecast can become inaccurate in the blink of an eye. Review and revise your forecast monthly or more often if your business is seasonal or high-volume.
- Model Scenarios: Build best-case, expected, and worst-case projections, so you will know how various outcomes affect your cash flow and profitability.
Allocate Resources Intentionally
Ensure your business budget is developed mindfully and designed around your profit goals.
- Separate Strategic and Operational Spending: Operational costs keep the business running. Strategic spending supports growth. Each needs its own budget and controls.
- Prioritize High-Return Activities: Direct your resources toward marketing efforts, tools, or hires that measurably improve performance.
- Plan for Reserves: Profitable businesses still face disruptions. Create a reserve fund to ensure that a single bad month doesn’t derail your long-term plans.
Improve Your Cash Flow with Invoice Factoring
Delayed revenue can make it difficult to follow through on plans or act on opportunities, both of which impact profitability. Invoice factoring from Charter Capital gives you access to working capital by accelerating payment on your outstanding invoices. To learn more or get started, request a complimentary rate quote.
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