How to Get Out of Debt by Increasing Gross Margin 20 Cents More Per Hour

If you could focus on one metric to get your business out of debt, it would be gross margins.

My staffing business was $600,000 in debt and 60 days away from completely running out of cash. It was 2006 and I was crying on a curb outside my company, Diversified Industrial Staffing, in Michigan.

It was severe — a combination of poor decisions made by me and clients filing bankruptcy to the tune of $219,000. The $600,000 in debt was tied to $2.5 million in revenue, with razor thin margins.

I had hired a coach, Greg, for professional business consultation. Greg had extensive expertise in the staffing industry and could look at my business objectively. I decided I would attempt one last effort to build my business back up, only this time doing it differently when Greg introduced me to the magic of margins. Fifteen years after turning around Diversified Industrial Staffing to not only get out of debt but also land on the list of the fastest-growing companies in the country, the Inc. 5,000, six times, I can attest to the timelessness of margin magic.

If you could focus on one metric to get your business out of debt, it would be gross margins. Even better, it’s both simple yet powerful. You don’t need to be a CPA to understand your gross margins. Yet, when you improve gross margins, it automatically improves all the more sophisticated metrics.

Follow this formula for success.

Simply put, gross margins are the percentage of revenue above the Cost of Goods Sold (COGS), which represents the business expenses required to produce goods. This generally includes raw materials and wages for labor required to produce or assemble products or to deliver services. It does not include business expenses that are not related to the production and delivery of the goods, such as rent, utilities and marketing expenses.

The formula to calculate your gross margins percentage is as follows: (revenue minus COGS) divided by revenue. So, if your revenue is $5 million and your COGS is $4 million, your gross margin percentage would be calculated as follows: $1 million divided by $5 million. Thus, your gross margin percentage would be 20%.

All it takes is 20 cents per hour.

A 20% gross margin is fairly healthy for most businesses, but it really depends on the type of business. For example, my business was operating less than that, at around 15%, when I first got involved in my business. That meant I had very little wiggle room to make a mistake before my profit would get squeezed. It took me $85 in COGS sold to generate $100 in revenue. I was focused on high-volume, low-margin accounts, placing a lot of unskilled manufacturing labor and competing against larger companies. I wasn’t able to add that much of a markup on top of the people I was placing. I was between a rock and a hard place.

My other operating expenses were also significant when compared to my gross margin. With Greg as my business coach, I realized that my EBITDA (earnings before interest, taxes, depreciation and amortization) were running only 5% as a percent of revenue, which is relatively low. In my case, Greg and I realized that if I could increase my gross margin percentage by 1% or $0.20 per hour to just a 16% gross profit (GP), we could increase my profits by 20%. That’s all it would take — 20 cents per hour. Done!

Improve your cash flow immediately.

When we looked at the numbers this way, I felt a great sense of relief about Diversified Industrial Staffing’s future. So many different variables impact gross margins. Surely, we could find 1% somewhere. And we did, pretty easily. In my case, we found it by committing to finding a more profitable niche in the staffing world, skilled trades manufacturing talent, that enabled me to charge a premium placement fee, immediately boosting gross margins. In less than nine months, I went from 16% GP to 26% GP. Abracadabra...Margin Magic: my EBITDA doubled!

Almost immediately, the cash flow improved by leaps and bounds. Even better, Greg knew exactly what variables to work on improving to increase margins and cash flow even more. Over time, even micro-changes to each variable adds up:

You can increase your pricing by a small percentage.
You can change your focus from large accounts to small, high-margin accounts.
You can change suppliers to save money on raw materials.
You can substitute raw materials, often finding a better solution at a lower cost.
You can adjust staffing to reduce labor costs.
You can automate parts of the process to reduce the need for human intervention.

No matter your business, the opportunities are virtually limitless and the impact is extraordinary when you focus your attention on improving gross margins.