Learn How to Calculate Retail Margins for Small Business Success

by:
on June 27, 2017

Retailers have to spend money to make money, but this “money spent” has to be kept at a reasonable level if retailers want to be successful.

For example, a $1 billion dollar business annually might sound great. But if the business’ annual expenses are $999,999,999, you’re looking at a $1 margin—and a financially unhealthy business.

That’s why we’ve put together this report to help retailers calculate margins.

We’ll cover what data is needed for making these calculations, and dive into how SMB retailers can capture and manage the necessary data.

Retail Profit Margins, Explained

Let’s lay down some basic definitions so we’re all on the same page before digging in:

Revenue: Total money a business takes in.

Expenses: Total costs needed to operate business (cost of goods, marketing, labor etc.)

Net Profit: Total money a business makes after subtracting all expenses from revenue.

With that in mind, retail profit margin is the percent of revenue that’s profit.

It takes into account the initial cost of goods and other expenses a business pays in order to sell the product. This is a critical metric to measure because it shows businesses how much of each revenue dollar is real money earned.

dollar equation

There’s not really a set margin that SMB retailers should shoot for. In decades past, retailers aimed to always keep profit margins at 50 percent, meaning goods are being sold at twice the price it cost retailers to acquire them.

This profit margin setup—called the keystone markup—was once an industry standard, but it’s not really applicable in today’s turbulent, competitive retail industry. Retailers are better off with a dynamic profit margin goal that takes into account margins across various classifications (products, stores etc.).

So how can you figure this out for yourself?

How to Calculate Profit Margin

Calculating retail profit margins can be broken into two tasks.

The first task is the data gathering and organization that must be done to track expenses and get an accurate revenue amount. Basically, if you’re looking to set a retail margin goal that you’d like to achieve, you’re going to need sufficient data management to ensure your numbers are accurate.

Once you have your expenses and revenue, the rest is simply formulaic:

First is calculating profits:

 REVENUE  EXPENSES  =  PROFITS 

Per the example in the image from the previous section, a $1 million annual business with $300,000 in total annual expenses has $700,000 in profits.

Now to get to profit margins:

 PROFITS  /  REVENUE  =  PROFIT MARGINS 

The retail profit margin for this example is 70 percent ( 700,000  /  1,000,000  =  0.7 ), meaning this business gets to keep $0.70 out of every dollar it makes.

How Software Helps Track Profit Margin

If you want to be able to accurately calculate your profit margins, keeping up with individual, one-off expenses and adding them to expected, repeatable expenses is a must. It also can feel like a full-time job.

Luckily, there are plenty of software options that can take care of all of this for you. Your retail point of sale system (POS) can likely automatically provide you with an accurate forecast of your profit margin, as well as many other key metrics.

 


Most POS systems on the market today include or easily integrate with sales reporting and analytics capabilities. These features provide users with easy-to-read dashboards that highlight key performance metrics like overall profit margins, profit, revenue, and expenses. Many of these also offer drill-down capabilities to capture margins at the product or store or employee level.

The data captured by retail POS systems will be unimaginably valuable down the road for the capabilities they enable, such as…

Get Ready for Margin Optimization Automation

To manually optimize retail margins and prices, SMBs need to be continuously monitored and tweaked based on new incoming data. Retail analytics software is a great first step, especially for SMB retailers, for automating key performance metrics like margins.

But Gartner IT research director and principal research analyst Robert Hetu and Kelsie Marian suggest that a new set of analytics systems that will soon revolutionize enterprise retailers is on the horizon: ALGORITHMS.

“Algorithmic retailing is the application of big data through advanced analytics across an increasingly complex and detailed retail structure to deliver an efficient and flexible, yet unified, customer experience.”

Source: “Using Algorithmic Retailing To Drive Competitive Advantage” (content available to Gartner clients)

Algorithmic retailing—and the technology behind it—is immensely interesting (at least to this nerd). But no matter how quickly algorithms are churning through data to influence retail margins, prices and marketing, it’s important to remember that it’s all in service of achieving broader business goals. That’s why Hetu and Marian put such an emphasis on applying algorithmic retailing to enhancing customer experiences, the greatest of retail objectives.

What Should SMBs Be Doing Now?

These retail algorithms are fascinating and will certainly disrupt the industry, but they’re still three to five years away from breaking into the enterprise retail scene. So SMB retailers need not focus too much on them over the next couple of years.

That focus should instead go toward optimizing retail systems from the bottom-up. Build a sound foundation of software capabilities and accessible, organized data that can be used to inform smart business decisions. Data management is a crucial competency for SMBs as they prepare for automation and algorithmic strategies coming in the next five years.

A POS system is the typical technological backbone for SMB retail operations. The tools and capabilities POS systems provide automate tedious manual process, freeing operators and managers up to spend more time with customers and employees. The data gathering and easily digestible reporting POS software provides is a great first step down the path to highly informed decision making.

If you need help finding a POS system that fits your unique business needs, Software Advice can probably give you some software advice. Here are a couple of quick and easy ways we can help:

  • Knock out a quick retail software questionnaire that informs us about your business so that we can build a shortlist of the best systems for you.
  • Cut through the jargon by reading reviews about POS systems from actual retailers. Input from your retail peers will help you get a snapshot of what systems to include on your POS shortlist.

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