For many Australian SMEs, growing revenue no longer guarantees growing profits.
Supplier prices have increased. Wages, rent, software, freight and financing costs continue to put pressure on businesses. At the same time, customers are often more cautious about accepting price increases.
This creates a difficult situation. You may be selling more but keeping less from every sale.
This is known as the SME margin squeeze.
The natural response is often to cut expenses. While controlling unnecessary costs is important, indiscriminate cost cutting can sometimes make the problem worse. Before reducing costs, business owners need to understand exactly where contribution is being lost.
The first CFO question should be:
Where is the margin actually disappearing?
It could be pricing, product mix, customer mix, labour recovery, freight, procurement, inventory, debtor payment times or another commercial driver. Identifying the real source of the pressure makes it easier to take targeted action rather than cutting costs across the board.
Start With Contribution Margin, Not Just Revenue
Revenue is one of the most visible numbers in a business, but it does not tell the full story.
A business can have strong sales and still struggle financially if the cost of delivering those sales has increased significantly.
This is where contribution margin becomes important.
Contribution margin shows how much revenue remains after variable costs are deducted. It helps business owners understand how much each product, service or sale contributes towards covering fixed costs and generating profit.
For example, imagine an Australian business selling two products. Product A generates $200,000 in annual revenue, while Product B generates $120,000. At first glance, Product A appears to be the better performer.
However, after considering materials, freight, labour and other variable costs, Product B may actually generate a significantly higher contribution margin.
Without this analysis, management could continue investing resources into the wrong product.
A regular margin review can identify:
• High margin products and services
• Low margin products that need attention
• Services requiring excessive staff time
• Products affected by rising supplier costs
• Customers who generate revenue but limited profit
The treatment of variable and directly attributable costs should be applied consistently to the particular business and its management-reporting methodology.
The objective is to understand where each dollar of revenue is creating value and where it is consuming resources without providing an adequate return.
Know Which Customers Are Actually Profitable
Not all revenue is equally valuable.
A customer who spends $100,000 with your business may appear more attractive than one who spends $50,000. But what happens when the larger customer receives significant discounts, requires frequent support, has expensive delivery requirements and takes 60 days to pay?
The smaller customer may actually provide a better return.
A proper customer profitability review should consider more than sales revenue.
Look at:
• Sales value
• Discounts
• Direct costs
• Delivery and freight
• Returns
• Customer service requirements
• Staff time
• Payment terms
• Collection history
The same principle applies to products and services.
Understanding product profitability helps an SME decide what to promote, what to reprice and what may no longer be commercially worthwhile.
Review Your Pricing Architecture
When costs rise, increasing every price by the same percentage can seem like the easiest solution.
It may not be the best one.
A strong pricing strategy considers the cost of delivering the product or service, customer expectations, market conditions, perceived value and the required profit margin.
Your pricing architecture could include different pricing levels for different customer groups or service requirements.
For example:
• Standard and premium service packages
• Minimum order values
• Separate delivery charges
• Additional fees for urgent work
• Volume based pricing
• Premium pricing for specialised services
• Annual pricing reviews
• Clear discount policies
The objective is not simply to increase prices.
The objective is to ensure that your prices properly reflect the value you provide and the resources required to deliver that value.
Make Sure Your Costs Are Being Recovered
Some business costs are obvious. Others gradually become part of the background.
Software subscriptions, administration, freight, storage, customer support, compliance and internal labour can all affect profitability.
A proper cost recovery review asks whether these costs are being adequately reflected in your pricing.
For professional and service businesses, this may involve reviewing staff utilisation, billable hours and the true cost of delivering each service.
For product businesses, it may mean including freight, storage, handling and purchasing costs when calculating the real cost of each item.
This gives management a more accurate understanding of gross margin and contribution margin.
Procurement Can Protect Your Margin
When supplier costs increase, the answer is not always to find the cheapest supplier.
A cheaper supplier may have longer lead times, inconsistent quality or higher freight costs. These issues can create additional costs elsewhere in the business.
Effective procurement considers the total cost of purchasing.
Review:
• Supplier prices
• Payment terms
• Freight costs
• Minimum order quantities
• Volume discounts
• Product quality
• Delivery reliability
• Contract terms
• Stock requirements
You may also be able to improve cash flow by negotiating better payment terms with suppliers.
The important point is to look beyond the unit price and understand the full financial impact of procurement decisions.
Working Capital Can Hide a Cash Problem
One of the biggest challenges for SMEs is the difference between profit and cash.
You can report a profit while still struggling to pay suppliers, wages or other expenses.
Why?
Because cash may be tied up in accounts receivable, inventory or other working capital.
Three areas deserve particular attention.
Debtor Management
If customers are taking longer to pay, your business is effectively financing their operations.
Review your debtor position regularly and identify:
• Overdue invoices
• Average payment times
• Customers with repeated late payments
• Credit limits
• Payment terms
• Large outstanding balances
Improving debtor management can release cash without requiring additional sales.
Clear payment terms, prompt invoicing and consistent follow up can make a significant difference to an SME’s cash position.
Inventory Management
Inventory can also consume cash without appearing immediately as a problem.
Too much stock means money has already left the bank account but has not yet returned through sales.
Look at:
• Fast moving stock
• Slow moving stock
• Obsolete inventory
• Stock turnover
• Reorder levels
• Purchasing patterns
• Minimum stock requirements
The goal is not simply to hold less stock. It is to hold the right stock at the right level.
Cash Flow Forecasting
A strong cash flow forecasting process gives management a forward view of the business.
Instead of asking how much cash is in the bank today, you can ask:
• What will our cash position look like in three months?
• Will we have enough cash to meet upcoming obligations?
• What happens if a major customer pays late?
• Can we afford the planned investment?
A reliable forecast allows management to identify pressure points before they become emergencies.
Use Scenario Modelling Before Making Decisions
When margins are under pressure, assumptions can be expensive.
Scenario modelling allows business owners to test different possibilities before committing to a decision.
For example:
• What happens if supplier costs increase by 10 percent?
• What happens if prices increase by 5 percent?
• What happens if sales volume falls by 8 percent?
• What happens if customers take another 15 days to pay?
• What happens if inventory is reduced?
• What happens if wages increase?
• What happens if a major customer leaves?
This type of analysis helps identify which decisions are likely to have the biggest effect on profit and cash.
For example, a business might assume that a 5 percent price increase will improve profitability. Scenario modelling can show whether the expected benefit remains positive if the price increase also causes sales volume to fall.
Similarly, reducing inventory may release cash, but modelling can help determine whether lower stock levels could also affect customer service or sales.
PLANALYTICA™ may be relevant where a business needs structured financial analysis and planning to understand these different scenarios and support better commercial decisions.
Do Not Cut Costs That Create Value
Cost control is important, but cutting costs without understanding their purpose can create bigger problems.
Reducing staff may affect customer service.
Buying cheaper materials may increase returns.
Cutting marketing may reduce future sales.
Delaying technology investment may increase administration and manual work.
Instead of asking only, “What can we cut?”, ask:
“Which costs create value, and which costs are not producing an acceptable return?”
This approach creates more sustainable cost management.
Improve the Quality of Financial Reporting
Business owners need more than historical accounts to manage a margin squeeze.
They need timely information that shows what is happening now and what may happen next.
Useful management reporting should bring together areas such as:
• Revenue
• Gross margin
• Contribution margin
• Operating expenses
• Cash flow
• Debtors
• Inventory
• Forecast performance
• Key business risks
The value of reporting is not simply in producing more numbers. It is in helping management understand what those numbers mean and what action may be required.
When Should an SME Consider CFO Support?
You do not necessarily need a full time CFO to access CFO level financial expertise.
Flexible CFO support can be useful when:
• Revenue is growing but margins are falling
• Cash flow is difficult to predict
• Pricing has not been reviewed recently
• Supplier costs are increasing
• Inventory is tying up cash
• Customers are paying slowly
• Management reporting is limited
• The business is preparing for expansion
• Owners need support with strategic financial decisions
The right support should help bring these areas together rather than treating each financial issue in isolation.
Margin Management Is About More Than Cutting Costs
The SME margin squeeze requires a complete view of the business.
Contribution margin tells you what individual sales are really contributing. Customer and product profitability show where your best opportunities are. Pricing architecture helps you recover costs appropriately.
Procurement decisions can help protect business margins, while debtor management and inventory control can release trapped working capital.
Cash flow forecasting and scenario modelling then help you understand what may happen next.
This is the difference between simply reacting to rising costs and actively managing the financial performance of your business.
For Australian SMEs, experienced CFO support can help turn financial information into practical commercial decisions, giving business owners greater visibility over profitability, cash flow and future risks.
At myCFO.co, the focus is on helping businesses understand their numbers, assess commercial options and make better informed financial decisions as they grow.
Frequently Asked Questions
What is an SME margin squeeze?
An SME margin squeeze occurs when the costs of operating and delivering products or services increase faster than selling prices. The result is a reduction in profit margin, even if sales revenue continues to grow.
How do I calculate contribution margin?
Contribution margin is generally calculated by subtracting variable costs from sales revenue. The result shows how much revenue is available to cover fixed costs and contribute towards profit. The treatment of variable and directly attributable costs should be applied consistently to the particular business and its management-reporting methodology.
Why is customer profitability important?
Customer profitability looks beyond revenue. It considers discounts, servicing costs, delivery, returns, staff time and payment behaviour to determine how much profit a customer actually contributes.
Should an SME increase its prices when costs rise?
A price increase may be appropriate, but it should be based on your costs, customer value, competition, demand and target margins. A structured pricing strategy is usually more effective than applying the same increase across every product or service.
How can I improve cash flow without increasing sales?
Improving debtor collections, reducing excess inventory, reviewing supplier payment terms and improving cash flow forecasting can help release cash from the existing business.
How can scenario modelling help my business?
Scenario modelling allows you to test different outcomes before making important decisions. You can model changes in pricing, costs, sales volume, wages, inventory and debtor payment times to understand potential effects on profit and cash.
When should an Australian SME consider CFO support?
An SME may benefit from CFO support when margins are falling, cash flow is difficult to predict, financial reporting is limited or management needs greater confidence when making strategic financial decisions.
Take Control of Your Margins
Rising costs do not have to automatically mean shrinking profits.
The right financial analysis can show you where margins are being lost, which customers and products are creating value, how pricing can improve, where working capital is being tied up and what actions can strengthen your cash position.
Book a 30 Minute Free Consultation
Speak with the team at myCFO.co about your current financial challenges and discover practical ways to improve profitability, strengthen cash flow and make more informed business decisions.