A key element of any business model is the startup profit potential.
Before you go any further with your new online business you need to work out whether or not you are going to be able to make any money with it.
So, can any of the business models you have developed in the previous steps the potential to earn you the profit you require?
Or will they just end up being one more money pit?
And for that matter, how will you know?
Profit planning generally involves looking at (analysing) the costs of your business and calculating the income that would be produced at various levels of activity.
You can then work out which level of activity is the bare minimum you need to do to cover all of your costs. The easiest way of doing that is to calculate your break even point and doing some break even analysis. but before you can do that you need to look at your operating costs and your potential sources of income.
Profit Planning Step 1: Identifying your Operating Costs
Gaining a good understanding the business operating expenses of your new
venture is not only critical to the success of your startup but also one of the
central tasks when you are planning your business and developing your business
This step is the same whether your business is online or offline.
Before you can even begin to evaluate the profit potential of your business, you will need to identify
costs and classify them into fixed and variable costs. The classifications are important because the two different types of costs behave differently.
- Fixed costs are costs that do not vary in total as sales or production
volumes changes over a relevant output range. These costs include administration
costs such as rent (hosting), salaries, utilities (electricity, internet charges), and depreciation.
- Variable costs are the costs that you incur as you produce or sell your
products or services. These cost vary with any changes in production or sales
volumes, and include costs such as material costs, sales commissions you pay to others or shipping
What this means is that you have to pay the fixed costs whether your online business makes any money or not, while your variable costs will increase or decrease as your sales go up or down.
Click here for more information on identifying and Classifying Your Operating Costs
Profit Planning Step 2: Pinning Down Your Income and or Setting Your Prices...
To be able to do any valid (robust) analysis or profit planning, you need to identify all of the different income streams your business will generate and work out how those income streams will be generated. Once you have identified the streams and isolated the drivers you should be able to generate estimates for total income at a variety of activity levels (sales volume).
What are Your Income Sources?
The sources of your income will vary depending on which type on online business you are planning.
The income for an affiliate online business is based on commissions earned for sales to customers that you send to the site of the company you are affiliated with. So income estimates are likely to be a function of the percentage of total traffic to your site that are likely to click through to the sales page and make a purchase times the commission payable for the average purchase amount. Generally purchases will be deemed to be one off with no repeat sales.
So you income calculation might be something like $10.00 (10% commission on an average sale of $100.00 per customer) for every 100 visitors (one in every 100 visitors will purchase). So if you have 1,000 visitors per day, you will make $100 in affiliate income.
Please do not use these figures as an estimate - they are here as an example of the calculation only and have no basis in fact. Affiliate income will vary widely between niches, the products being promoted, and between affiliates. Not all affiliates use the same methods of promoting products, not all product owners offer the same level of commissions and not all site generate the same level of traffic. Just because someone else produces a certain level of income does not mean that you will!
With a Network Marketing online business you will also work on a percentage of traffic but the income estimates will reflect the different purchasing behavior of your prospects. For example, many of your visitors will be tire kickers with no intention to purchase, some will buy as customers once, others will become repeat customers. An even smaller percentage will become involved in the business opportunity and these visitors will become members of your "team" so their contribution to your sales commissions will be for both personal purchases and the purchases of any people they bring in as customers or as their own team members.
The calculation for eCommerce income streams will be different again, and vary between businesses depending on the type of product or service being sold.
Click here for more information on Online Income Sources
Setting Your Prices
If you are selling physical items or digital goods, you will need to know how much you are planning to sell each one for and approximately how many you will be able to sell.
Getting your pricing right is a critical factor determining the success of your
new online business. Many of your potential customers will have an expectation that if it is for sale online, they will be getting a bargain. These people are going to be quite sensitive to what they perceive as high prices and will balk at paying shipping costs on top. Others will not care about price provided you can supply them with something desirable that they cannot get elsewhere.
Some of the important factors that will influence the development of
your pricing strategy should include, customer value, what your competitors are charging and their likely response to your pricing strategy, your market
position and what your market will stand.
The method you use for setting your prices will depend on your competitive
strategy you choose for your business, and the competitive conditions that exist
within your industry. The two main methods of determining your price are
cost-plus or a variant of market value.
Click here for more information on Pricing Decisions
Profit Planning Step 3: Break Even Analysis
The most common method of evaluating the profit potential of a new business
is to undertake a
break even analysis.
Break even analysis will tell you how many units of
your product or service you would need to sell to break even.
even point is where your costs match your sales volume and you have made neither
a profit or a loss.
The formula for calculating your break even point is:
Sales -([Variable Cost per Unit x Sales Volume]- Fixed Costs) = EBIT = 0
- Variable Cost = cost of goods and selling expenses,
which vary with changes in production volume
- Fixed Cost = administrative expenses that do not vary
with changes in production volumes
- EBIT = Earnings before income tax
You may have noticed from the equation, that you will need to develop cost
estimates for your fixed and variable costs, and determine prices before you can
calculate your break even point.
Click here for more information on how to use the contribution margin to calculate your break even point
Profit Planning Step 4: Forecasting Your Planned Activity and Sales
Calculating your sales forecast is a task you will have to do when you are assessing the feasibility of your new online home business and then again every time you develop a new budget.
Initially, these calculations will be used when you are assessing the viability of your new online home business. But you will also be able to use them to develop your financial plan during the business planning process. Your estimated sales volume and dollars will be included in your cash-flow forecasts and your pro-form Income Statement.
You will also use these calculations every time you go through the process of setting your operational budget - which should be a process you go through at least once a year!Therefore it important that you spend a bit of time getting your 'educated guess' as accurate as you can.
Click here for more information about Calculating Your Sales Forecast
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