All store owners know that the profit margin is an important indicator of the store’s profitability and financial health. However, there is one question that all retailers ask themselves at least once: what is the typical profit margin for a retail store?
It’s not easy to define what the typical profit margin is in retail. The same margin can be low for an industry, and normal or high for another. Profit margins depend on the industry, stage of the business and future plans of the retailer. However, net profit margins vary between 0.5% and 9% in retail.
You first need to know what gross profit margins, net profit margins and operating profit margins are. We will then define the factors that make a profit margin healthy. Finally, we will give you some tips to increase your profit margins.
Types of Profit Margins
Before we tell you what the typical profit margin for a retail store is, you should know that there are three types of profit margin.
Gross Profit Margin
The gross profit margin is the difference between the selling price to the consumer and the purchasing cost for the retailer. For example, if you sell a product for $30 but it costs you $15 to produce it or to buy it from the supplier, then your gross margin is 50%, or $15.
The formula for calculating the gross profit margin of a product is as follows:
If you want to calculate the gross profit margin of your business, the formula would be this:
Here is a tangible example:
Net Profit Margin
The net profit margin is the money that remains from the store’s total income after the cost of goods sold, operating expenses, rent, taxes, and all other store expenses. The higher this margin, the more money you have in your pocket. For example, if you sold $500,000 and spent $300,000 during the fiscal year, then the net profit margin is 40%, or $200,000. This means that for every $100 you sell, you have $40 in profit going into your pocket.
Here is the formula for the net profit margin:
Here is a tangible application of this formula:
It is important to know that the gross profit margin can be very high and the net profit margin is generally quite low. These are the two types of margins that we are interested in for the rest of this article. There is a third type of profit margin that is worth knowing about.
Operating Margin
The operating margin provides an overview of how efficiently a company manages its operating costs and generates profits. This is a useful metric for assessing the profitability of a store’s daily operations. This calculation takes into account earnings before interest and taxes (EBIT). Operating expenses are the general, selling and administration expenses. They include rent, salaries, utilities, etc.
The formula is as follows:
Usually, the gross profit margin is higher than the operating margin. The latter is higher than the net profit margin.
Identify the Best Profit Margin
So, what is the typical profit margin in retail? Unfortunately, there is no clear answer to this question. Profit margins vary greatly depending on store types.
Generally, a gross profit margin of 5% is low in retail, while 10% is an average margin and 20% is considered a good margin. The average gross profit margin for retail businesses across the world is around 50%. It can reach 60% to 65% in the jewelry and cosmetics industries. It can also be reduced to 35% for alcoholic beverages. You can see the 2018 average gross profit margins for all retail sectors here.
Retailers, however, have lower net profit margins than other sectors. The net profit margin generally varies between 0.5% and 9%. Building supply retailers and distributors have the highest net profit margins. Online stores, grocery stores, and other food retailers have the lowest net profit margins. The overall average net profit margin for retail stores is 2.35%.
It is important not to mix up the retail markup with the margin rate. Click here to know the difference.
The ideal profit margin depends on your store type. Some stores are sure to have low margins, while other stores may have high margins. The margin also depends on the stage of the business. If your business is still in its early stages, margins are often going to be higher, even if the number of sales is still low. As your business grows, operational costs increase and profit margins decrease.
A good profit margin also depends on your future plans. If you want to take on an investor, offer more services or expand, it may be wise to increase your profit margins.
Why Are the Margins So Low?
It is difficult for retailers to raise their prices because prices vary a lot in retail. Today’s consumers can indeed buy online and compare the price of the same product in different stores. This means that prices must be competitive. Retailers therefore have little room to increase their profit margins.
Another reason why profit margins are low in retail is that consumer spending is discretionary, particularly in retail. When consumers plan on buying a product, they want to save money. They are very picky when it comes to non-essential products.
How to Increase Profit Margins
To increase profit margins, action must be taken on inventory management, operational expenses, product range, prices and sales volume.
1. Improve Inventory Management
Overstock and dead stock reduce profit margins. This is why you must improve inventory management to increase your profit margins.
You must first make sure to better predict sales so you can order the right quantity of products and minimize losses. One way to improve your predictions is to collect data on customer behaviors and preferences as well as market trends. By analyzing them, you can make informed decisions when it comes to ordering from suppliers.
Technology also makes it possible to improve inventory management. With point of sale or inventory management softwares, it is possible to collect data, have a real-time overview of inventory, streamline your processes, and better serve your customers. A point of sale software helps save time and money, thereby increasing your profit margins.
Click here to learn the best way to manage a store’s inventory.
2. Reduce Operational Expenses
Operational expenses are subtracted from your revenue, so they reduce your net profit margin. You can therefore evaluate all of your expenses (rent, utilities, employee expenses, insurance and other fixed costs). This way you see where you can cut without doing too much harm to service quality or employee happiness.
3. Analyze the Performance and Profit Margins of the Entire Product Range
Products that sell less well or have a low profit margin reduce your income. An evaluation lets you know which products are profitable. After this evaluation of product performance, remove products which have low profit and are not selling much. Also find out the most successful and profitable products in your industry and add them to your product line.
4. Experiment With Pricing
Pricing is the biggest (and most obvious) factor that influences your profit margins. You have to find the perfect prices. They should not be so high that people stop buying the products. To maximize your profit margins, they shouldn’t be too low either. Prices should correspond to the perceived value of the products by customers. If a product has a lot of value in the eyes of customers, then you can sell it at a higher price.
Don’t hesitate to test different price ranges and experiment with discounts. This helps find the perfect balance to maximize your profits and sales volume.
5. Increase Sales Volume
If your profit margins are low, you must work to increase the sales volume. Some large companies have very low margins, but the large number of sales means that they make an astronomical amount of profits. For example, according to Macrotrends, Walmart’s net profit margin at the end of October 2023 was only 2.55%. Their sales, however, are very high ($638.79 billion), so there is a lot of money coming back to them after subtracting operating costs and costs to acquire the products from the suppliers.
Customer retention helps to increase sales at a low cost. It is in fact less expensive to work on retaining customers who have visited your store at least once than to attract new ones.
Another technique to boost sales is to invest in marketing to promote your most profitable products and to make your store known to a wider audience. You can use your website, your social networks as well as advertising to promote your store and increase your sales.
In conclusion, there are many factors to take into account when determining what the typical profit margin is for a retail store. Regardless of your business stage, industry or growth goals, there are effective ways to increase your gross and net profit margins. With the right tools and knowledge, you can increase the amount of money that comes back into your pockets!
