THE NUMBERS

 Revenue is money collected from the sale of goods or services. This means that you have received the money and have met all the commitments related to that sale. If you make a sale today but you will only do the work in a few months’ time, you can only recognise the sale as revenue once you have completed the work and have received the money. If the clients pays a non-refundable deposit, then you can recognise the deposit as revenue – assuming you won't ever have to pay it back. Revenue is the life-blood of a business – a business does not exist if has no revenue. 

 COGS refers to the direct cost of doing a job or producing the product that a business sells. It includes the cost of materials, labour and associated costs used specifically for a particular job or product. Associated costs include the cost of delivery of the materials, consumables needed to install the product, cost of hiring machinery and so on. It is crucial to calculate the cost of sales accurately in order to price a job properly and hit your profit margins.

Gross profit is the difference between revenue and the cost of goods sold. GP = Revenue – COGS. It is the money that is left over after paying all the costs directly associated with the job or product.

Gross profit is not for the business owner to keep – it is used to pay overheads and taxes. The owner only gets to keep what is left after everything has been paid. This highlights the importance of pricing jobs correctly. If you do not generate the required gross profit, you will not have enough to pay the other bills – including yourself. 

Dividing the gross profit by the revenue gives the gross profit percentage. (GP% = GP/Revenue). Not every job will have the same GP% but a business should work towards maximising its average GP% every reporting period.

Gross profit is not the same as mark-up. Mark-up is the percentage you add to the cost of goods sold. For example, if something costs $100 dollars and you mark it up $50 to sell it for $150, your mark-up is 50%. The GP%, however, is just over 33%. ($50/$150). That means that only 1/3 of what you sold goes towards covering overheads, taxes, and all other costs.

Overheads are business costs related to the day to day running of the business while not being directly related to a specific job, product or service. These are costs that are incurred irrespective of how much revenue the business is generating. Overheads can be split into 2 main categories: Fixed and variable.

Fixed overheads include things like monthly office rent, liability insurance, truck lease payments, mobile phone contract and so on. They are bolted down – they do not change from month to month.

Variable overheads are not directly related to a specific job but can change from month to month. They include printing, postage, advertising, fuel, IT Support, water and electricity.

When budgeting, it is important to know that overhead can vary from month to month and you need to account for this so that you can accurately calculate your break-even point.

 The break-even point is where gross profit equals overheads. It is where you cover all of your costs and you have zero net profit (or loss).

Break-even revenue (the dollars of revenue you have to generate to break-even) is calculated by dividing overheads by the gross profit percentage. The higher your gross profit percentage, the lower the relative break-even revenue. For example, if your overheads for a month equals $12,500 and your average gross profit percentage is 30% you need to produce $40,000 of revenue in that month just to break-even. Using the same overhead amount, if your gross profit is 50%, then you only need generate $25,000 in revenue for the month.

 Net profit is total revenue less total costs. It is what is left over in the business after all business expenses have been paid. Net profit before tax is the amount on which income tax is calculated and net profit after tax is the amount left over after income tax has been paid. It is yours to keep and do with as you please – pay down debt, invest back in the business, buy a boat… It is the financial “pat-on-the-back” at the end of the year.