An Introduction to Mastering Profit Margin Formulas for Food Manufacturers
Profit margins are a major determinant of success in the food industry, making the question driving this article of paramount importance for food and beverage manufacturers: how do you improve your margins and demonstrate profitability?
Icicle Technologies Founder and CEO, Steven Burton, recently presented a webinar on Maximizing Margins for Food Production: Mastering Strategies that Build Profitability, hosted by British Columbia Food and Beverage (BCFB) last fall. In it, Burton examined the metrics food and beverage manufacturers can use to maximize their revenue, as well as the data-driven opportunities and limitations they should know about. You can access the on-demand webinar recording here, but before we go deeper into the question, let’s consider some of its context. What’s the matter with profit margins in the food industry anyway?
The Food Industry’s Spoiled Profit Margin Ratio
Net profit margins, or the ratio of your company’s profit (sales minus all expenses) divided by your revenue, are the main indicators of financial health. Food and beverage manufacturers face unique challenges in a mature industry with a long history and plenty of intense competition, resulting in slim profit margins when compared to other industries.
According to CSIMarket, the trailing twelve month net profit margin for the food processing industry in 2022 was under 12%. As a benchmark for comparison, the most profitable food companies have net profit margins between 20-30%.
Pressures that drive up the costs of production and sales worsened significantly in 2022. Large, powerful retailers and troupes of middlemen force rising, smaller manufacturers to fight for their market share. Since food is an essential part of human and ecological health, regulatory requirements are stringent and compliance costly, involving specialized staff and oversight, mountains of paperwork, and rigorous enforcement of correct manufacturing practices. Adding the current economic and supply chain stresses to the mix (including rising labour, transportation, and material costs), the demands of running a profitable food business is something rather more than a challenge for many.
On the other hand, the bleak outlook that many in the food industry espouse can also be overblown, or at least, oversimplified. Opportunities for growth abound as well, especially with the astonishing expansion of access to advanced technologies that transform agriculture and manufacturing practices, as well as technologies that were previously accessible only to massive corporations with huge resources. The global supply chain, though brittle, provides an enormous range of ingredients and other materials for food production. Governments invest in food producers and infrastructure to support the industry, especially in times of unpredictability or disaster. You have ready access to consumer markets, and in much of the world, to an effective transportation network.
Fundamentally, you make something that everyone needs: food. That’s why new food and beverage businesses start up all the time, and why the industry is always changing and growing.
With fewer options and less breathing room than other industries, food processors need to consider improving profitability from two directions in order to crack the right profit margin ratio: maximizing revenue and reducing costs.
Boosting Numbers: Secure High Profitability Ratios By Increasing Sales Revenue
Maximizing revenue can be accomplished by simply increasing prices, for example, with a brilliant marketing campaign or a brand that commands premium prices. If you can increase the average cost of a cup of coffee from $2 to $5, like Starbucks did, you can open a lot of possibilities. But these kinds of strategies are difficult to replicate for most businesses. More commonly, food and beverage manufacturers increase their revenue by finding new markets, which involves selling more products or developing innovative new products.
The risk involved in expanding to new markets is sustainability: if you add three new flavours to your product line, you don’t just raise the possibility of sales, but also the cost of production and the risk of underperformance. You can also raise your prices, which the food industry is rather famous for these days, which is to some degree expected in the current market – but by how much? And what will your retail clients think about getting a higher bill?
One of the most successful and reliable strategies for maximizing revenue in this industry is to maintain the high quality standards that the biggest customers for food manufacturers demand. The cost of customer acquisition is steep, from marketing, sales, contracts, accounting – it all cuts into your net profit margin. How do you quantify the cost, then, of drawing in a customer, signing them, delivering their order, and then learning that the order was sent back because of a quality or safety issue? Or even worse, if your product is subject to a recall, bringing liability to everyone in your customer’s supply chain?
To maintain quality, you need established specifications and the ability to measure them, in order to ensure those specifications are met. You also need to be able to produce a repeatable product that meets your customer’s expectations: products that delight customers, build trust in your brand, and minimize complaints as much as possible. If you produce an inconsistent, shoddy product, your competitors will come right up the middle and take your market share.
Whether it’s due to the cost of training or high staff turnover or disrupted supply chains, the task of maintaining high production standards – crucial to profitability – might seem daunting. But the opportunities presented by modern technologies (even relatively simple and low cost solutions like GS1-compliant barcodes and scanners) are not just keys to success and growth; they are tools for survival in an era of adaptability. Automation technologies help a company weather storms and even grow exponentially without eating into your net profit margins.
Squashing the Competition: Optimize Your Operating Profit Margin Ratio with Process Automation
Most companies are doing everything they can to increase their revenue already, making reducing costs a more common option with a wide variety of approaches. In all cases, you can only reduce costs so much before product quality and safety, or other factors like regulatory compliance, take a hit.
At the same time, the range of what you can do while maintaining production standards is vast. Some companies may reduce costs by buying more inventory in larger lots to maximize a relationship with a supplier. A small and inefficient operation might reduce overhead as much as possible or use a co-packer. Another, growing company might opt to outsource elements of its distribution, warehousing and fulfillment services to give a facility more capacity to expand their production to meet new sales orders.
Labor is one of the larger expenses of manufacturing, but so are human error and other inefficiencies that eat into your operating profit margin. Many operations carry significant inefficiencies that translate into slimmer profit margins when competitors are able to modernize and automate manufacturing processes. Consider the amount of time and resources that a company saves by automating data entry compared to another that has twenty people on the floor writing down numbers on clipboards, which yet more people have to enter into computers later. Digitization simply makes sense for your bottom line and gives your staff more capacity to focus on delivering more value.
While each food manufacturer can adopt automation to suit their unique operations, the bottom line is that eliminating inefficiencies is an essential part of staying competitive by optimizing your operating profit margin ratio. When your competition is larger than you – and therefore has better economies of scale, bigger markets, more market clout when it comes to buying raw materials, and so on – you can’t compete. If you can’t make your operation efficient, you can’t really thrive, and often companies in this position are set to die slowly. With some of the more impressive technological innovations in food production and manufacturing, that pressure is only growing.
While some production enhancing technologies come in the form of manufacturing automation – what people normally think of in terms of robotics and other expensive equipment that replace workers – the greater opportunity is actually related to business process automation. A large share of labour costs are accrued by the business processes around production, not from production itself. From procurement, logistics, and sales to quality assurance, food safety, and so on, all of this labour adds up.
With automated processes, the possibilities for what is possible for food and beverage production are dramatically expanded, from streamlined warehouse logistics to eliminating food waste and beyond. But all of those forms of automation need to be data-driven in order to yield the growth you are looking for.
The Metrics You Need for Scaling Up Your Food Business
How do you identify where you can improve your business processes with automation technology? A concerted effort to maximize your profit margins should involve benchmarks or goals, which means that you need quality data to know where you are so you can target your approach and measure your success. The good news for food and beverage processors is that in an industry that collects so much data in its day-to-day operations, there are many metrics that can help you guide the way to beefier margins.
A good metric needs to be well-defined in order to help you monitor, analyze, and optimize your production processes. These numbers, also called Key Performance Indicators (KPIs), allow you to demonstrate your success and uncover challenges. Picking out the right metrics for both quantitative and qualitative indications of your performance is essential for a data-driven approach to decision-making.
Register for our on-demand webinar on Maximizing Margins for Food Production to learn more about the 6 key metrics that drive profitability for food manufacturers, and strategies to leverage them.
Ready to take your business to new heights? Contact the Icicle sales team to learn more about how Icicle ERP amplifies success for food processors.