Profit Margins

      Defining profit and determining how much you should expect. November 22, 2004

We all know the importance of adding profit to our pricing structure to insure the financial health of our company. I would like to hear from successful cabinet manufacturers. How much profit should a successful custom cabinet shop be making?

Forum Responses
From contributor K:
That depends on what you mean by "profit". Do you mean money you personally put into your pocket, or what the company profit is after all expenses are paid, including you?

I know that this is not the answer you want to hear, but it will be different for each company, as their growth plans are different. Define what you want to make personally on an annual basis (including bonus, retirement, savings, etc.) and build it into your shop rate, so you know you will get paid. Be sure this rate includes a profit margin (whatever you determine that to be), and then a profit mark-up for all materials.

As far as profit for the company goes, it depends on your perspective. Do you want your company to have savings for growth, or are you happy ensuring you make a living and that expenses are paid? Company savings (profits) are utilized in many ways, from new equipment purchases, supporting employees during lean times, charity, overruns, etc.

If you want to go by averages, the DOL stats for our industry are 7.9% profit margin (got it from a SCORE rep a couple of years ago and may have since changed)... but then again, their definition of profit does not meet what we consider profit.

I would not continue working if we were only profiting 7.9%... that's a lousy ROI for the blood, sweat and tears we experience in this industry.

One thing that has surprised me many times over is how some shops continually charge the same from year to year. No price increases. On top of that, I see guys absorbing material cost increases without upcharging the customer. In the end, it puts them under extreme stress, as these costs need to be covered, and it usually comes out of their pocket (and their family's).

From contributor I:
Contributor K says score says 7.9% average. That sounds like a good answer.

I disagree with other things that contributor K says. Profit is profit. There are not different kinds of profit. Profit is what is left over after everything has been paid for (including you); interest, rent, heat, depreciation of assets, etc.

7.9% is not ROI (as contributor K says).
7.9% profit margin means 7.9% of sales, not 7.9% of invested capital.

Knowing that 7.9% is an average, I would say that the smaller the shop (in sales), the higher the profit margin should be.

From contributor A:
I don't do cabinets per se, but I do all kinds of woodwork, including casework.

When I submit a proposal, I figure all my costs including labor and overhead. Then I add on 20% for true profit. Profit is profit, but lots of shops don't have an accurate picture of overhead costs. For instance, how many shops figure in vehicle maintenance? This gives a different number that is not true profit.

Also, some shops charge a markup for materials. Is this profit or is profit measured on the whole job? Depends on your definition and how you use the word "profit."

I can tell you that if I can't get better than an average of 10% ROI, I'll sell everything, put my money in the bank and fish.

From contributor B:
The markup we put on material, 20%, covers our time to unload the truck and put away the product.

And, you are right - profit is profit. After you're paid, your taxes are paid, etc.

We've averaged 21% over 18 years.

From contributor R:
In my business:
((Materials + materials markup) + (direct labor + labor burden) + overhead)= Cost.

As in the post above, the materials markup covers handling, incidentals, etc. The overhead covers all indirect costs including financing of receivables. What I make above Cost is Profit.

The AWI Cost of Doing Business survey usually puts profit for highly profitable shops in my market around 12%. This is 12% of gross sales. In a good year, my profit margin runs between 8% and 10% on $5 million gross sales. (My company is 75 years old, about 15 years old as a free standing entity with records and I have worked in it for 13 years and owned it for 4 years.) This is after I have paid myself a salary and paid out profit sharing with my crew 3 times yearly. So, when it's going well, it's worth continuing.

From contributor C:
It seems "profit" is thrown around quite a bit, and always asked about on this site.

Most shop owners I know are not well to do, living in million dollar homes and making a killing. Most, as is evident in many threads, claim it's a tough business, and making a good living is about all you'll get out of owning a custom shop.

If this is the case, and I don't know one millionaire custom woodworker, how can contributor R bring in close to $500k per year and not be retired? Where are all the guys pulling in that kind of money?

From contributor R:
A couple of things- as I said, 10% is a good year and I don't have one every year. In order to develop the company, I have incurred a lot of debt, and a lot of my profit for the past 4 years has gone to paying that debt down. And profit is not what goes into the owner's pocket. I give myself some of the profit in a good year, but I reinvest in equipment, training, and other things to grow the business - if things go as they are supposed to, the company gains real value and I have real equity. That is what I hope will fund my retirement.

It is a tough business, and high risk. I know people who have lost everything they had and more trying to do it. Most of the owners I know are getting along pretty well in the short term, and I know quite a few who are comfortably retired, after years of hard work and focus on profit. I do know a couple of "millionaire" custom woodworkers, but not many. A lot of it is in knowing when to get in and when to quit. I study both the successes and the failures very intently, in hopes of being among the former when I am ready to move on.

From contributor C:
Isn't investment into equipment, training, etc. all before profit? Why would you post a $500k profit, pay taxes on it, then reinvest the next year?

Please understand, I'm not trying to be confrontational, but trying to bring a little clarification to what true profit is. What true "take home" profit should be expected?

I do know quite a few millionaires. Most are those I build custom work for. I certainly don't claim to know all the woodworkers in my area, and don't know their personal net worth. But it's not too difficult to figure out how someone is doing. Especially when their companies are quitting business (not by choice).

It would be helpful to also know what the owner's salary averages. That would dramatically effect the profit of a company. Most often, I see the profit as the owner's salary.

In my opinion, this business can provide an excellent living. It doesn't for most because of the inability to price work to adequately cover overhead and labor. Profits, or lack of them, are determined by this lack of understanding the true cost of doing business. I think that would be the first step to profitability, not just plugging in a profit margin.

From contributor K:
Contributor I, like I said, it depends on your definition of profit. I'm sorry I wasn't more clear in the previous post, but what I meant by that is...

"Profit is profit" - Yes, technically you are right, but the point I was making was many small shops look at the "profit" from a project as their personal income. A lot of shops do not distinguish between personal and company profit, which is why they run into problems when times get tight. I know this because I went through it personally. It took me time to realign this paradigm, as I am sometimes not the sharpest tool in the box. That is why I said it depends on your definition of profit. A lot of guys I talked to over the years say something to the effect of "as long as I can pay my bills, cover my expenses, and still make money for myself, and go fishing whenever I want (intangible ROI), I consider myself profitable". And they also are technically correct... But that does not mean the business is profitable or making money.

"There are not different kinds of profit." - Well, it's semantics on my part, but there is good profit and bad profit, mostly defined by good and bad business... After all, .01% above costs is still considered profit on paper, but is it really?

"Profit is what is left over after everything has been paid for (including you)" - Yes, but a lot of shops do not consider paying themselves as part of their overhead. They view the "profit" as their income, so I was pointing out that the profit is sometimes incorrectly tied to the income.

"7.9% is not ROI" - What I was saying was that if all I was profiting was 7.9%, I would not be in business. ROI is typically associated with dollars invested, but dollars are reinvested back into your business, and if your return on this reinvestment is not what you want (i.e. - 7.9%), it is not a good ROI. Don't forget the intangible ROI of your time, blood, sweat and tears, so as to make it worth your time and effort. For many, the love of woodworking covers this deficit.

One of the things I try to point out time and time again is that we are professionals, and we should be compensated as such. You determine what that amount is, but whatever that amount is, it should be factored into your costs, and then there should still be a profit above that. Again, you alone need to determine how profitable you want to be, and I hope for your sake that it is not 7.9%.

At the end of your career, you will sell your business, in one form or another (parts or transfer of ownership), and the other thing you will take with you is the profit you've saved, your ROI on a lifetime of work.

From contributor K:
Contributor C, do you consider "take home profit," as you put it, actual profit or an expense to the business?

From contributor R:
I have to disagree with much of what contributor C states, although I agree that some of this is semantics.

First of all, for me, the owner's salary is not the same as profit. I have a job that takes 50 or 60 hours a week out of my life and I want to get paid for the work I do in the company, whether the company makes money or not. So I pay myself a salary that seems to me to be reasonable compensation based on my skills and contribution, more or less what I'd have to pay someone else to do what I do. If the company can't afford to pay for the work that I do, it's not a viable business. This holds true no matter how small or large the business is.

As for equipment and other forms of reinvestment, I would like to buy $250,000 of new equipment next year, in order to stay competitive, open new markets, etc. I have to earn that money this year and it is part of my profit. It remains in the company in the form of tangible assets and real business value. This is just one of the uses of profit. If I put it all in my bank account it would still be profit, but my business would wither and die, and the tax consequences would be different.

From contributor C:
I don't consider my pay as profit - I agree with contributor R on that totally. But I believe investment in new machinery is a yearly cost that I will incur, not just "if we make a profit." So, each year I make a budget for new machinery purchases. I don't wait and see what my profit is, then buy new machinery based on the profit.

This isn't all cut and dry. There are good years, and mediocre years. My point is, I've not met anyone pulling in close to $500k out of a custom woodworking business, every year. The "profits" are returned back into the business, to grow, buy new machinery, etc.

It is semantics, but if someone is reading this, they shouldn't be under any assumption that they will pull in an owner's salary, plus another $300-500k a year in "profit."

From the original questioner:
My original question assumed three things. First, that the true cost of goods sold is understood (materials + markup / labor + labor burden), in my business 50%. Second, that there is a margin for overhead (15%). Third, that there is a margin for sales, marketing and project management (15%). This is where the owner's salary comes from in my business. This leaves about 20% for true company profit. I use Quickbooks software, which tracks all of my expenses so I know exactly what my margins are and the above ratios are a proven thing based on actual data. What I am trying to figure out is if this is what most successful shops are doing.

From contributor K:
I don't think I'll be much help here, as our profit margin is based on the project, whether it is a complete remodel, cabinetry only, one-of-a-kind pieces (always a higher percentage), etc.

I suggest that you not use other shops as your example. It is not a true indicator of what your potential is or can be.

As an example, we used to undercharge for our product/services big time, but we still made money. When times were lean or we had overruns, however, things were just miserable. The stress was unbelievable. We came to a point of decision, and on the next project we bid, we charged dramatically more than we usually did, and we got it. We have not looked back since.

I guess what I am trying to say is that it does not matter what the profit margins of "successful cabinet makers" are, as your business is unique to you. As hard as it is, you must determine what you are worth and how much you will profit in the end.

Whatever number you come up with from others (i.e. - the answer you are looking for), I suggest you add a minimum of 10-15%, as it is very doable. Think outside of this box.

One final thought... At the end of your career, how much more do you think you would've profited, had you increased your price 5-10-20%? Don't do what a lot in our industry have done (we were guilty, also) and still do - sell yourself short.

The comments below were added after this Forum discussion was archived as a Knowledge Base article (add your comment).

Comment from contributor V:
Profit is sales less cost of goods and expenses. Investment into machinery and materials (such as wood) are posted to the balance sheet and not the profit and loss statement. So the profit of the company is what enables the company to buy new equipment and maintain inventory.

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