Last updated: 03rd Jul 2025
A rising profit margin means your earnings are growing faster than your business costs – a great feat in an economy that’s struggling with high inflation.
Director of Australian accounting firm Mahler Advisory, Simon Madziar, said:
Learn how to calculate your profit margin and the best ways to improve profitability and reduce costs to lift your margins.
(Related: The Best Accounting Software For Aussie SMBs).
How To Calculate Your Profit Margin.
Net profit margin is a financial metric that indicates the percentage of your total revenue that is profit.
In other words, for every dollar earned, what percentage do you keep (as opposed to spending on the business)?
To calculate your profit margin, divide total income by net profit:
Important!
Net profit, or net income, is simply your business earnings minus all your expenses, including tax.
Net profit margin doesn’t reflect the amount of your profits — just the proportion of profit compared to total revenue.
How Does It Differ From Gross And Operating Profit Margins?
There are two other ways that finance pros and analysts commonly measure profit margin:
- Gross profit margin: The percentage of your revenue that exceeds the costs of the goods and services you sell (aka COGS). You might calculate the gross profit margin of a specific product line or service type, to see whether the cost of making/delivering it is justified by its profitability.
To calculate gross profit margin:
- Operating profit margin: The percentage of revenue that’s profit after accounting for both COGS and operational expenditure (aka OpEx), which typically includes running costs like the lease of your building, your electric/gas bill, digital systems, and marketing.
To calculate operating profit margin:
Above and beyond the cost of goods sold and OpEx required to keep your business running, net profit includes costs like interest payments and taxes.
That makes net profit margin the most comprehensive view of profit margin.
Limitations To Profit Margin Ratios.
There are limitations to the calculation to be aware of:
- If you’ve invested in property, machinery or other physical assets like vehicles or technology, the depreciation cost added to your expense line (eventually offset through tax claims) can make net profits look worse than reality.
- If you’ve taken out a loan to fund your set-up or growth, the interest repayments on your debt will obviously skew your net profit figure for the loan term. Again, that lowers your profit margin even if profitability is generally good.
(Related: Ultimate Guide To Capital Expenditure For SMBs.)
How to Interpret Profit Margins.
Profit margin ratios can tell you more about a business’ long-term resilience than dollar figure profits.
A firm with millions in turnover, but a very small profit margin, could be on shaky ground if business conditions change.
A mid-sized manufacturing business might have excellent cash flow, but a relatively low profit margin due to unavoidable input costs.
A micro business with low revenue can have a higher profit margin than a much more successful operation, simply because it operates with fewer overheads.
For example:
- Company #1 brings in $200,000 in revenue for the quarter, and has $120,000 in expenses. $80K profit divided by $200K revenue amounts to a profit margin of 40%.
- Company #2 earns $8,000 in a quarter, but has just $2,000 in expenses. $6K profit divided by $8K revenue equals a profit margin of 75%.
This is why businesses of all sizes are always looking for ways to either:
- Do more with less, but cutting costs or increasing efficiency and scale; or
- Attract more customers, healthier sales or higher-paying jobs.
The trouble is, ramping up your revenue-generating capacity, such as by investing in new equipment, advertising, or hiring extra team members, usually adds costs.
If you don’t end up selling or earning more, and you can’t pass costs onto your customers, your profit margin will shrink.
Deciding whether an expense or capex investment will help you achieve exceptional revenue growth is an ongoing challenge for small-to-medium business owners.
What’s A Good Profit Margin?
A good profit margin is around 10%, while below 5% is the danger zone. A 20% profit margin is a strong sign of financial health.
Industries in Australia with high profit margins include:
- Oil and gas extraction (58.2%) and mining (~40-50%).
- Property and real estate services (36.3%).
- Medical and health care services (29.4%).
- Creative and performing arts activities (29.2%).
- Finance and insurance services (25.3%).
- Professional, scientific and technical services (23.9%).
Some sectors have higher profit margins because what they sell is rare, in-demand and hard to access.
But these businesses often come with higher costs and complexity due the infrastructure, processes, personnel, and licences/compliance needed.
Creatives, consultants and other professionals are positioned to achieve high profit margins because their main asset is their skill or knowledge, meaning overheads are low.
But they have to stand apart in crowded market to earn the big bucks.
Using The Metric To Improve Your Business.
Regularly reviewing profit margins can help you understand how your business is travelling. Profit margins:
- Help you gauge your business’ safety buffer. Let’s say your biggest supplier increases their prices and you can’t generate as much profit — a high profit margin means you won’t immediately be operating at a loss if your costs increase.
- Help you diagnose where to focus to grow your business’ profitability. If you spot that operating profit margin rose considerably over the year, it gives you a starting point for reducing waste — such as cancelling unused subscriptions or travelling less.
As well as highlighting that you might be spending too much on your business, a falling profit margin might indicate you’re not charging enough for your products and services or doing enough to satisfy the customers you have.
Important!
Make sure you’re accurately tracking all of your income sources and all of your expenses. It pays to invest in applications and accounting software that make it easy to record, categorise and analyse the work you’ve produced and your expenses and revenue.
Should You Set A Profit Margin Target?
Sarah Pyke from Altus Financial said a consistent profit margin over time is often a sign of a stable business. She warns,
Beware basing business decisions on striving to meet a specific, lofty profit margin, such as pushing for an increase from 10% to 20%.
You want to avoid mistakes like:
- Increasing prices too quickly, and losing existing customers as a result.
- Offering inferior products or services that don’t actually meet demand.
- Cutting resources or activities that are critical for sales, safety or quality.
Australians trust local and small business businesses more than big corporates – but you’ll still turn people off if there’s a whiff of price gouging, or your products seem cheap and nasty.
How SMBs Can Increase Profit Margins.
A higher net profit margin is usually the result of some combination of these three factors:
- Low materials/inventory costs, a small headcount, minimal infrastructure and low overheads.
- Great systems and processes, ensuring you can efficiently deliver your goods and services.
- High-value outputs or offers, pricing strategies that hit the sweet spot, and effective marketing.
Maximising all three facets may require: searching for better deals or different vendors; taking a hard look at your processes and the bottlenecks that slow you down; and doing more to avoid customer churn and enhance your offerings to sell/earn more.
For instance, you might:
- Source the same product at a better price from a different supplier, ensuring you can still meet customer demand but make a better profit off every unit sold.
- Leverage AI to augment a leaner human team, helping them deal with issues faster, onboard new customers more easily, and generate more sales.
- Bundle multiple products and services to promote as a package, letting you charge more, focus your efforts to do a better job, and earn more repeat business.
It’s also important to be clear about how your business model impacts your potential profit margin. For instance:
- Your profit margins may be lower if you’re selling a commonly-sold item that people aren’t willing to spend much on, such as graphic tees. But overall profit might be strong if you can maintain a high volume of sales, driven by marketing or collaborations that increase interest.
- Your profit margins may be higher if you’re selling unique, hand-made ceramics that have gone viral via TikTok, with a waiting list and a customer base willing to splurge to acquire one of your creations. However, this business is harder to scale, to keep increasing profit and margins.
Finally, getting professional advice could be helpful. Look for a switched-on accountant, business adviser, coach, or marketing pro, depending on where you need to improve.
Jody
