It is not unusual during times of prosperity for businesses to let their margins slip, only to pay a heavy price when conditions later worsen.
When times are good, the market is burgeoning, and your business is enjoying high growth it is easy to take your eye off the ball and to be satisfied with the overall increase in profits rather than concentrate on maintaining your relative profitability.
Suppose, for example, that your input costs slowly increase during a period of high growth. Because your overall profits are also increasing you might not bother to pass this onto the customer.
But the overall increase in profit conceals a reduction of your bottom line as a percentage of gross sales, and therefore a decrease in your relative profitability.
Suppose your sales are up from £1.5million two years ago to £2million this year, but your profits have only increased from £150,000 to £180,000. With a 20% percent increase in profits you might be tempted to ignore the erosion of your gross margin – until things take a turn for the worse that is.
It is one thing to pass increased costs onto the customer when times are good, but a very different proposition during a downturn. And if you cannot restore your margins you are going to feel the pinch.
The moral, therefore, is always to keep your eye on your margins and not to let them slip – even during times of prosperity.