[Market-farming] big difference between gross profit and gross profit MARGIN
jasperm at iquest.net
Wed Feb 9 21:03:37 EST 2005
Pat Meadows wrote:
>So I cannot see, no matter how much an accounting rule it
>may be, that it would always be beneficial to have a certain
>percentage of gross profit margin required per crop.
There is no accounting rule dictating any acceptable gross margin. A
business model may be built on any margin assumption but that like any
other "plan", is subject to the intrusion of reality. There are some
pretty profitable businesses built on less than 50% margins (most as a
matter of fact) but again are we talking true gross margin or say a
materials margin or what? If you have a high velocity of turnover you
can get the same results on less margin. That is why break even analysis
is in my view more important sometimes. If you sell $1000 a week at 50%
variable costs margin with fixed costs of $200 or you sell $2000 a week
at 25% variable costs margin at $200 in fixed costs what is your gross
profit. $300 in each case but your "margin "is 1/2. If you can sell
$3,000 a week on the 25% then your variable margin is still the same but
if your fixed costs remain the same you bring home another $250. I am
not advocating joining a race to the bottom on pricing but there is
something to be said for finding the "sweet spot" for pricing. I liken
it to coming up on a plane in a sailboat. You kind of waddle through the
water as you gain momentum and rise partially out of the water then all
of a sudden you feel a burst of speed and the hull sings to you.
And I will throw into the pot of ideas that it isn't just about "margin"
you have to consider what is called transaction costs and carrying costs.
If you have built an organization where everything gets double and
triple checked for errors etc. you may very well have a pretty high
transaction cost. So if you have 70% margin but you can't get an invoice
through your system for less than $15 then you are losing money on every
sale of $21 or less. If you have a boat load of something that takes 6
months to sell you have to shed it, maybe carry a loan on it etc. These
things should be in the calculation of "true" Gross profit/margin but
need to be considered individually in decision making rather than waiting
to see how they "average out".
>Maybe this is a flaw of considering everything from the
>standpoint of 'financial books'.
As in my other post I would agree that not every meaningful metric is
contained in the financial records. In some ways they are the "average"
of a lot of little things. When you look at them at the end of the year
they are more like the weatherman telling us we had an "average of X
inches per month" of rain for the year. Never mind that May you couldn't
get into the field because it was a monsoon and in August the tomatoes
keeled over because there was a drought. The average was ok. You may
make out on the beans in one year and lose it in the tomatoes or
whatever. Margin analysis is best done on the logical subsets of your
activities. Did you make money going to that extra farmers market or did
you end up working harder and getting nothing for it once you factored in
your costs and lost time etc.
The financial books tell you on average how you did. The more frequently
you look at them (ie. monthly say versus annually) the more likely they
can help you make better decisions in time but in the interim if you can
at least have a handle on margin and what you need to cover your fixed
costs (break even) you can make better choices. if you need $500/ week
to make ends meet then the guy or gal selling $1000 at 50% margin after
the other $200 in costs isn't going to make it but the one selling $3000
at 25% is.
Another thing is as much as you try to be accurate, financial books are
based on a lot of estimates. You may say the estimated useful life of
your EZ up is 3 years but if someone takes a little bit better care of it
or gets one made a little better it may last say 5 years. So once you
really know that the thing is really going to last 5 years you can look
back and say the depreciation I took in those first 3 years was a little
too much and I was actually making more money than I thought and these
last two years I was paying tax on more money than I was actually making.
The point and there really is one is that the more accurately you
project your costs and the demand for your products the closer you can
shave your models margin. The more squishy your numbers the more you
better be able to count on a big margin to succeed. The higher your
fixed cost the less flexibility and again that puts pressure on having
either a great margin or huge demand that can be counted on. Look at the
Airline industry. I read somewhere that at this point the airlines have
lost the equivalent of every dollar ever invested in them. I think most
of it was lost in the last 10-15 years of how many years of passenger
I suppose by now eyes are rolling and people say how would you know this
stuff. Try keeping a 3X5 card. Head one up Tomatoes or XYZ farmers
market and just try to keep a log of guesstimates of what you spent
getting there. It may not "balance" but it will potentially be eye
Cash flow anyone?
Anyway I ramble again,
"In a time of universal deceit, telling the truth is a revolutionary act."
"Beer is proof that God loves us and wants us to be happy."
Central Indiana Zone 5b
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