Ultimately the money you take out of your business depends on how much you have to spend to support your Net Sales.
The difference between what you sold and what you spent is your Operating Income.
If you want to make more money consistently, you must constantly find new ways to lower your direct and indirect costs while increasing your sales. Do this, and you will increase your Operating Income because your Total Spend Productivity is continuously improving.
Productivity is a critical determining factor of cost efficiency and is often used to set performance standards. Total Spend Productivity is a Throughput Ratio that measures how efficiently your business strategy, structure, and processes convert inputs (all of your expenses) into useful outputs (profits). This number is calculated by dividing the ending output per period by the total costs incurred in that period.
This throughput view is used to determine how profitable a company is concerning operations and is a much more accurate picture of a company’s success than Gross Sales. It’s also the best proxy for how much cash will likely be held onto after paying every operating bill.
The formula for calculating Total Spend Productivity is as follows:
Output (Operating Income) / Input (COGS + SG&A Expenses)
A 1.2 productivity ratio means that for every dollar of sales that passes through the business, 20 cents will remain to cover interest and taxes and have profit left over to pay the owner a bonus or reinvest into the business.
Higher Creates Opportunity: means more money for the Owners to pocket or reinvest in the business after paying operating bills.
Lower Creates Challenges: indicates less money for the Owners to work with after paying all operating bills.