How to work out overhead costs for your product business
Business overheads can be tricky, but to keep your product-based business healthy, it’s important that you understand them in detail. This understanding will help you keep your overhead costs in check, set your pricing, and secure that all-important profit.
But how can you understand and refine your overhead costs? We’ll show you how. We’ll delve deep into what overhead costs are and how to work them out – all with worked examples along the way so you can see exactly how to calculate them. Hold on tight and grab your calculator…
How to calculate your overhead % per product
Imagine you have three cushions in your range, priced at three different levels. The costs of making each one are shown below (product + time):
For a £75 Cushion:
Total Cost = £47.25
PLUS
Profit: £27.75 (37%)For a £94 Cushion:
Total Cost = £59.25
PLUS
Profit: £34.75 (37%)For a £112 Cushion:
Total Cost = £70.56
PLUS
Profit: £41.44 (37%)Notice that all of your profit margins are the same (37%).
The prices above don’t take overheads into account, though.
You work out your overheads (as we showed in pricing like a pro) and you can see you need to add an extra £15.97 in cost to each product. That makes your total cost and profit for each cushion:
£75 Cushion
Total Cost = £63.22 (£47.25 + £15.97)
Profit: £11.78 (a drop from 37% to 16%)£94 Cushion
Total Cost = £75.22 (£59.25 + £15.97)
Profit: £17.73 (a drop from 37% to 19%)£112 Cushion
Total Cost = £86.53 (£70.56 + £15.97)
Profit: £25.47 (a drop from 37% to 23%)You were aiming for a 20% profit margin, so the £94 cushion is the closest, but you’re getting less profit on the cheaper cushion and more on the higher priced one.
In order to keep the profit margins evenly weighted, you’ll need to use a % overhead cost.
To do this, calculate your Average Selling Price (ASP) by adding all of your different prices together and dividing by the number of products:
£75 + £94 + £112 = £281 ÷ 3
= £93.67 ASP ** A more accurate way of calculating ASP is to work out the mix of products you will sell. For example 15 x £75, 10 x £94, 5 x £112 = a total income of £2625. Divided by the number of cushions sold: £2625 / 30 = £87.50 ASP. This is lower because you are selling more of the £75 cushions. You can use this method if you have a view on your sales by product and price point.
Next, take the overhead cost per product (£15.97) and divide that by the ASP:
(£15.97 / £93.67) * 100 = 17.0% overhead cost
This is the percentage which we will apply to the selling price (SP x Overhead Cost %), to get our new overhead cost per product:
£75 Cushion
Total Cost = £47.25 + £12.75
Profit: £15.00 (20%)£94 Cushion
Total Cost = £59.25 + £15.98
Profit: £18.77 (20%)£112 Cushion
Total Cost = £70.56 + £19.04
Profit: £22.40 (20%)
Ta da!
All of your margins are now exactly the same and the overhead cost has been fairly weighted across all of your products, regardless of the selling price.
You can use the Flourish Overheads Calculator to work through all this. And you can get hold of the Flourish Overheads Calculator for FREE when you purchase the Flourish Pricing Calculator. You’re welcome.
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