What is small business profitability?
Profitability – this term is heard by almost every adult. But not everyone understands what this term means. Not even all businessmen can explain this term. After starting to publish articles on small business performance, I began to receive letters from my readers asking them to explain the difference between business performance and profitability. And in general, talk about profitability – what kind of concept it is, how it is determined, etc.
What is profitability.
Basically, these are letters from those businessmen who came across lenders or investors. And one of the very first questions they were asked was the question of the profitability of their business. But not only for the sake of lenders, it is necessary to have elementary concepts of profitability. Profitability is one of the main indicators of business performance, which illustrates the effectiveness of all, without exception, business costs, the effectiveness of all its activities.
Unlike other business performance indicators, profitability is a purely economic indicator, an indicator of its economic efficiency. This term came from the German word “rentabel” – profitable, profitable. Profitability shows how efficiently one or another cost of a business is used to make a profit. In other words, profitability is always the ratio of profit to costs by which this profit was received.
So, the profitability of a business is an indicator that demonstrates the effectiveness of a business using its material resources (fixed, circulating, borrowed and other means) in its activities. Those. profitability indicators show us how much profit is received by the business for each unit of cash invested in its production process. Profitability ratios are affected by many factors. Almost everything that determines the vital activity of a business affects its performance.
profitability_growth_profitability By the value of profitability of a small business, you can judge its well-being, its sustainability. In addition, profitability is one of the criteria for attracting business to investors. Profitability is almost always considered when drawing up a small business business plan for banks. Profitability indicators should be calculated regularly, compare the results and monitor the status of small businesses.
As can be seen from the definitions, profitability is a relative indicator of economic efficiency. And as a relative indicator, it is measured as a percentage. Typically, profitability is determined by dividing the amount of profit by the amount of assets and resources spent on its receipt. In general terms, the formula for determining profitability is as follows:
P = P / W * 100%
Where: P – profitability;
P – type of profit for which profitability is calculated;
C – the cost of obtaining this type of profit.
What is the profitability.
In the article, I wrote that there are several types and definitions of profit. Accordingly, there are even more types of profitability. It makes no sense to even list all existing types of profitability. Let us dwell only on a few of its types, which most specifically determine the performance of small businesses.
Profitability of production.
This is the ratio of profit from production and sale of products to the amount of costs incurred to obtain it.
Rpr = P / C * 100%
Where: P – profit received as a result of industrial activity. You can take into account both profit before tax and net profit. I believe that calculations with a net profit for a businessman are more revealing.
Зп – production costs incurred for profit.
Profitability of production can also be calculated for small business units to compare the effectiveness of their work. Some sources suggest taking into account the cost of production in the form of production costs. But then, for small businesses will be more indicative of sales profitability.
Return on sales.
This is the ratio of profit from sales to total revenue from sales.
PP = P / V * 100%
Where: B – revenue received from sales for a certain period.
This indicator reflects how much profit is contained in each monetary unit received from the sale of products. This indicator should certainly be calculated in case of changes in product prices. Using this indicator, you can determine how much a business can afford to lower prices without risking to break out of the breakeven zone.