What is Your Financial IQ?

All of us understand the industry specific jargon is verbalized on a daily basis among our prospects, customers and colleagues. To those outside our industry it seems like we are speaking Greek. But to those in the know, those buzzwords are well understood. Likewise, there are financial buzzwords that permeate just about every sales organization. It is important that you are familiar with the most common of these and understand their meaning.  This article focuses on just three and is intended to be helpful if you have not been exposed to these concepts before. If you are not familiar them, please read and reread this article, then go find more sources of information. Failure to understand these three basic concepts could expose a very low financial IQ and damage your credibility as a seller.

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ROI: Return on Investment. You should be able to demonstrate how an investment in your product and/or service will create a financial return for your customer.

Example:  Multiple studies have shown that purchasing our manufacturing software can reduce the number of man-hours required to assemble your product by 20%.

Here is the information needed to determine the ROI:

Cost of software:  $125,000

Current Manufacturing Man Hours Required: 1,000

Cost Per Man Hour: $75

Here’s how to calculate the ROI:

Total Cost of Man Hours: $75,000 (1,000 hours *$75 per hour)

20% reduction in Man Hours: 2,000 hours (20% * 1,000 hours)

Total Man Hour Savings: $150,000 (2,000 Man Hours Saved * $75 per hour)

ROI:  $25,000 (Reduction in cost of $150,000 minus the price of the software, $125,000)

ROI Stated in Percentage: 20% (ROI of $25,000 divided by the cost of the software, $125,000)

Using ROI to demonstrate the value of your product or service is a great way to differentiate you from the competition. It also helps the customer justify the expense of the acquisition since it will ultimately save their company money.

Gross Profit: The difference between the direct cost of your product or and its sales price.

Example: Your product costs $24 to manufacture (Cost of Goods) and you sell it for $50 (Sale Price).  Your Gross Profit is $26. ($50 - $24)  

Gross Profit Margin:  This is your Gross Profit reflected in percentage terms. Stated another way, what is the percentage of my sale that is profit? In the above example the Gross Profit of $26 could be restated as a Gross Profit Margin of 52% ($26/$50).  In other words, 52% of my sale is Gross Profit. To calculate the Gross Profit Margin, divide the Gross Profit by the Sale Price.

Gross profit is an important financial metric for your organization. Your company must maintain a certain gross profit on its sales in order to meet its financial goals. That’s why pricing committees and pricing approvals require signoff from financial management. They need to weigh the advantage of discounting the product against the goal of maintaining strong gross profit margins.

Markup Percent:  This is very different than Gross Profit Margin and sellers often get these two terms confused.  Markup refers to the percent increase in sale price over the Cost of Goods. Continuing with our example from above, we would say that the Markup is 108% ($26/$24).  Markup is calculated by dividing the Gross Profit by the Cost of Goods. Note the stark difference in the two figures - the Gross Profit Margin is 52% while the Markup is over twice that figure.  Knowing the difference between these two calculations is an important indicator of your financial IQ.

You don’t need to be a financial professional to be a great seller, but it does help to know your way around key financial terms and their related calculations.  These are just a few of the basics that every seller should be familiar with.