A lot of people forget about the essence of a successful business. I will explain this concept first, because I believe that this is the most critical concept. In business, you have to have profits to sustain your business. Right? To generate profits you have revenues and expenses. Revenues must be greater than expenses. There are two kinds of expenses in a very broad way. One is cost of sales and the other is selling, general and administrative expenses. I want to talk about the profits after the cost of sales. This is called gross profit or gross margin, and it is critical for the success of your international business.
Here are two real cases. Company A and B. Both were in the automobile faster distribution industry in Chicago. They are our clients. When Leman shock hit, both companies’ sales declined as you can see.
Their margins show significant difference. Company A shows decline of its gross margin to 11.8 %. On the other hand, Company B’s gross margin increased to 21. 9%. This is because the president of Company B was successful in getting price concessions from its parent company in 2008. Guess which company still exists. Company B had sizable losses in 2009 and its shareholder decided to close the subsidiary. Company B no longer exists.
If you have a high margin, you can withstand economic downturn. Even if the sales goes down drastically, you have some room. On the other hand, if your gross margin is low, slight decrease in sales leads to a loss position. Therefore, sufficient gross profit is such a significant factor of your going global activities.
When going global, the first question that you have to ask yourself is how much gross profit can you earn in the foreign market that you are aiming at or domestic market that you want to import products to. OK, let’s say that your product can sell at $100 apiece and the cost of making or buying your product is $70 a piece. Your gross profit is $30. This can be also applied to a case where you provide service. You earn $100 for your service and the direct cost of providing the service is $70. Your gross profit is $30. If your gross profit is about 10% of the sales, I say forget about going global. You cannot sustain your business with a mere 10% gross profit. The reason? Simple. In general, with 10% gross profit, you cannot pay for salary, rent, warehouse fee, advertising, etc. No matter how smart you are, 10% of the gross profit will not carry your business. I say that there is an exception thought. Some of the automobile parts manufacturers can thrive with a low margin but all of them have sufficient and almost guaranteed volume.
OK, then, what is the minimum gross profit that you should have to sustain your business? It depends on if you are distributor or a manufacturer. But, for small business, the majority of the business will be distribution in the early stage. Since the distribution business carries inventory, I say that you have to have at least 20% gross profit after your inventory costs including freight, duty and insurance. Inventory, freight, duty and insurance are generally your cost of sales. 20% is the absolute minimum. If you can have 25% to 30% gross profit, it would be better. Over 30% would be much better.
Let’s say that you are very smart individual. Even so, you will definitely struggle with 10% gross profits. Even if you are not smart, with 35% profit, your business will be successful at least for a short time.
Therefore, ensuring that you have sufficient gross profit is very important when you go global.