Over the years working in proposition development, I have developed a hobby to scout profitability data across different industries. I find the comparisons between industries quite interesting, especially for the Technology and retail verticals I work in – software, information services, and telecoms.
Apart from wider professional interest, margin data and analysis help greatly when developing a new proposition as these serve as a benchmark to improve the business, but also to explore different business models and commercial tactics.
I find the question on “what’s a reasonable margin for my business” a bit strange, as any business operates in a larger framework which more or less gives the settings, yet any company is empowered to create a unique business model in order to extract higher profit margins.
High profit margin, low profit margin – a view across 95 industries
I recently came upon a quite comprehensive update on Profit margins per industry from Stern school of business across 90 odd industries, which covers net margins, pre-tax/after-tax operating margins as well as EBITDA.
The dream of every business – big or small – is to grow profit but also profit margin that give freedom for growth.
Some industries are simply subscribed to higher margins
Naturally, the divide between service-based businesses and those producing and selling physical goods meets the eye first. Almost all verticals that drive 15% plus net margins belong to services space – think investment management, banks, real estate.
When Forbes published Sagework’s ranking of the top 15 industries generating the highest profit margins, it was no surprise tax accounting services, real estate, dentist and legal services topped the list.
For most service companies, the profit equation is quite simple.
profit = revenue – cost of people – general expenses
Service industries command higher margin as their key differentiator is human capital that creates highly specialised output in the form of advise or intangible products, for which customers pay a premium. Their overhead and ‘keeping the lights on’ costs are relatively low and predictable over time, so service businesses do not need to spend cash on costly capital investments or high recurring costs.
Another parameter of high-margin businesses is the perception of exclusivity they create around the goods they sell. Exclusive products are difficult to compare or replicate, so like-for-like competition is difficult. Jewellery and fashion are good examples of industries whose end product maintains high margins. In technology, a mention on Apple’s products is enough to illustrate what ‘exclusive’ products mean in terms of design and customer experience.
Why a higher profit margin is better than lower margin?
We know that profit margin is absolutely key for company growth, but growth is a complex construct as it is dependent on many variables. Higher profit margin allows businesses to:
- weather the storms of economic decline. A low margin may be easily obliterated in a downturn, dragging the company into bankruptcy
- attract more customers – always a good thing!
- attract better talent, as employees prefer working for growing companies
- attract more investors, who value how the company keeps taps on costs to generate a higher profit
Profit margin that is higher than your competitors’ is something that catches the eye of investors and analysts. Amazon’s recent Prime Day is a good example of how the biggest online retailer zooms into items from the Fashion category, to diversify its product mix and increase its minimalistic margins.
A really good article on that is “Why Prime Day Was a Big Win for Amazon — and for Other Retailers” from Knowledge@Wharton.
Useful reading on profit margins
- Margin analysis: PWC Tech News paper. It is from 2011, but I still use it as a training material!
- Profit margin in service-based industries: A good post from Carl Erickson, the CEO of Atomic Object.
- Driving higher profitability – The 1% Windfall: How Successful Companies Use Price to Profit and Grow by Rafi Mohammed – one of the good books on the topic.
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