What’s More Important, Gross Profit or Gross Margin?

By Paul Starkey
Published on: January 11, 2020

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Long ago, in small hi-fi shops across America, retailers enjoyed 30-35 percent margins on the systems they sold. Some even achieved margins of 40 percent. And then came video. It started with VCR’s – big, clunky, initially-expensive machines that shared a common feature: GM of less than 20 percent. That seemed OK when the machines were priced over $1,000, cuz you could make $200 on a single-box sale.

Of course, to sell VCR’s you had to sell TV’s, too. Like VCR’s, these were also a low-margin item. Newly-minted “AV specialists” figured out real fast they had to come up with new ways to bolster low video margins. But they also justified the lower margins with the added volume and GP dollars that came with the category. It’s almost 50 years later, and many video products still have low margins. And some companies still want to think that it’s the GP that’s important, not the GM. You can’t, after all, pay bills with margins.

True enough, but here’s another truth – you can’t make enough profit without margin. The math is simple. Employee costs in most AV companies (including direct labor) run 35-40 percent of sales. Rent and other operating costs run 12-18 percent of sales. That’s 47 percent costs, on the low side; 58 percent costs on the high side. How much money can you make on a 54 percent GM?

The answer is simple: less than you can make on a 60 percent margin. Which is less than you can make on a 64 percent margin. Which is less than you can make on a 70 percent margin. It doesn’t matter how much GP you got on this deal or that. If your margin is less than it should be – and for today’s AV companies, we would peg that at 57 percent or higher – you will make less money than you should.

We read recently a justification for maintaining a retail presence. We love retailing! The problem is, there is huge overhead associated with retailing: showroom space, demo inventory, people to wait on customers, back-up inventory in case anybody buys anything. Oh, and this . . .  lower margins than you can achieve as a value-added integrator.

We’re working with a company that does tonnage work with production builders. Lotsa trucks, lotsa installers, lotsa moving around – a lot of per-job overhead. And this . . . lower margins than you can achieve as a value-added integrator.

We’re not against selling video or doing production homes. If, you can make some margin doing it. And if you can’t, don’t kid yourself that you’ll make it up in volume. Instead, look at ways to deploy the same time and resources to do higher-margin work. It works, every time.

Keep it Vital.

Paul Starkey

Paul Starkey

Paul Starkey is a 23 year CI industry veteran who led control manufacturer ELAN from infancy to a 150 person company. He is a visionary, keen on innovation, pioneer of on-line training, and numerous product innovations. He is co-founder of Vital Management.

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