What Causes Low Profit Margin? 9 Common Reasons and How to Prove Which One Is Yours

If your profit margin feels low, you are not alone.

Most business owners can sense something is off. Money comes in, work gets done, customers keep buying, but somehow there is not much left at the end.

The problem is that “low profit margin” can mean two very different things. If you do not separate them, you end up guessing, cutting the wrong costs, or raising prices blindly.

If the phrase “business data” already makes you want to close the tab, start with this first. It is a plain-English way to think about the numbers you already have.
https://grifflepop.com/business-data-basics/

First, work out which margin is actually low

Before you hunt for causes, split the problem into one of these:

1) Gross margin is low

This usually means the core work is not profitable enough. It is linked to:

• pricing

• discounts

• product costs

• waste

• refunds and rework

2) Net margin is low

This usually means overheads and hidden costs are eating the profit. It is linked to:

• labour time

• admin load

• tools and subscriptions

• delivery costs

• rent, utilities, insurance

• inefficiencies that repeat weekly

Here is a quick example so you can see the difference:

• Revenue £10,000, direct costs £6,000 (materials, stock, subcontractors, transaction fees) → gross margin 40%

• Then you add overheads £3,500 (rent, tools, insurance, admin time, delivery costs) → you are left with £500 → net margin 5%

If gross margin is healthy but net margin is poor, your core work may be fine, but the business is leaking profit through overheads and inefficiency. If gross margin is poor, the problem usually sits in pricing, discounting, costs, waste, or time-to-deliver.

You do not need perfect bookkeeping to test this. You just need a basic breakdown of money in, money out, and where time goes.

If you want a simple framework for what small businesses should track first, this guide lays it out without KPI overload: https://grifflepop.com/what-should-a-small-business-actually-track/

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How to use this list properly

Do not try to fix all nine.

Pick the ones that sound most likely, then run the “prove it” test. The goal is not to feel better. The goal is to stop guessing.

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1) Your pricing is too low

What it looks like

You are busy, customers buy, but every job feels tight. Any mistake wipes out the profit.

How to prove it

Pick your top 5 products or services and calculate:

• average selling price (last 30–90 days)

• direct cost to deliver it (materials, subcontractors, transaction fees)

If the gap is small, you have a pricing problem or a cost problem. Sometimes both.

First move

Do not raise prices across everything. Start by adjusting the worst offender or removing the lowest-margin option.

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2) Discounts are quietly eating margin

What it looks like

Sales look healthy, but profit is thin. You run offers often or negotiate almost every sale.

How to prove it

For one month, track:

• % of sales with a discount

• average discount amount

• profit margin on discounted sales vs full-price sales

If discounts are common, you may be training customers to wait, or discounting to cover a different issue (like poor conversion or weak positioning).

First move

Stop blanket discounting. Replace it with tighter rules: only specific products, specific times, specific reasons.

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3) Your product or service mix has shifted

What it looks like

You are selling more, but margins are worse than before. You might be doing “busy work” that looks good on revenue but pays badly.

How to prove it

List your top 10 products/services and calculate two shares:

• share of revenue

• share of profit (or estimated profit if you do not have exact costs)

If something drives lots of revenue but little profit, it is pulling your margin down.

First move

Push the profitable work harder. Reduce focus on the low-margin work, or raise prices where demand is strong.

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4) Direct costs have increased and prices have not

What it looks like

You are charging the same, but materials, suppliers, packaging, fuel, or platform fees have crept up.

How to prove it

Compare unit costs now vs 6–12 months ago for your biggest cost items. If you do not have history, check your last few invoices.

You are looking for creep, not perfection.

First move

Renegotiate, switch suppliers, reduce waste, or adjust pricing for the items where costs moved most.

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5) Labour time is higher than you think

This one is brutal because it hides in plain sight.

What it looks like

Jobs always take “a bit longer”. Staff get pulled into fixes, follow-ups, and small admin tasks that do not get billed.

How to prove it

For 2 weeks, track time on your most common jobs:

• time you expected

• time it actually took

Even rough tracking works. If your time is consistently higher than your pricing assumes, margin will always be weak.

First move

Either improve the process to reduce time, or price based on reality instead of hope.

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6) Rework, errors, and refunds are bleeding profit

What it looks like

Returns, complaints, fixes, remakes, missed details, follow-up visits. You tell yourself it is “just part of business”.

How to prove it

Track for one month:

• number of rework incidents

• hours spent fixing

• refunds and credits

• materials wasted

If rework is common, it is not a quality issue. It is a margin issue.

First move

Fix the cause, not the symptom. Usually it is one of:

• unclear handovers

• missing checklists

• inconsistent data entry

• rushed work due to time pressure

If your reporting and tracking are messy, this is where it usually starts. Fix Reporting Mistakes: https://grifflepop.com/fix-reporting-mistakes/

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7) Waste and shrinkage are higher than you think

What it looks like

Stock disappears, materials get over-ordered, spoilage happens, or usage is hard to explain.

How to prove it

Compare:

• what you expected to use (based on sales/jobs)

• what you actually purchased or consumed

You do not need a full inventory system. A simple note of waste events is enough to spot patterns.

First move

Start with one high-cost item and track it properly for a month. Waste is rarely spread evenly. It clusters.

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8) Overheads have grown while sales stayed flat

What it looks like

You added tools, staff, rent, subscriptions, delivery costs, or services. Revenue did not grow at the same pace.

How to prove it

Calculate overheads as a percentage of revenue each month:

• rent and utilities

• subscriptions and tools

• insurance and services

• admin costs

• non-billable labour

If overhead % rises while revenue stays flat, net margin will drop even if gross margin is fine.

First move

Do not cut randomly. Rank the top 10 overheads by cost and ask:

• does this directly support sales or delivery?

• does it reduce time or errors?

• would removing it create more work?

This is the same principle covered here: https://grifflepop.com/how-small-businesses-can-save-money/

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9) Capacity and utilisation are the real problem

This is common in service businesses, trades, and anything with fixed costs.

What it looks like

You have downtime, gaps in the diary, or quiet days that still cost money. Or you have staff on payroll but not enough billable work.

How to prove it

Track:

• % of working hours that are billable

• number of empty slots per week

• revenue per hour (or per job hour)

Low utilisation spreads fixed costs across fewer sales, which makes margin drop even if pricing is fine.

First move

Improve demand first (marketing, repeat customers, referral systems) or change delivery so you can handle the same work with less dead time.

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If you do not have the data to prove any of this

That is normal.

Most small businesses do have the data, it is just scattered across:

• invoices

• bank statements

• spreadsheets

• emails

• notes

• someone’s memory

Start with a simple setup you can actually maintain. This post shows the few spreadsheets most small businesses rely on and how to keep them tidy: https://grifflepop.com/small-business-spreadsheets/

Once you are tracking consistently, you can move to proper KPIs. If you want a simple list that works for most SMEs, start here: https://grifflepop.com/essential-sme-kpis/

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The 30-minute profit margin diagnostic (use this before you change anything)

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A simple plan for this week

1. Decide if your issue is gross margin or net margin

2. Pick two causes from the list

3. Run the “prove it” test using the last 30–90 days of numbers

4. Make one change and track the impact for two weeks

Low profit margin is not fixed by motivation. It is fixed by finding the real cause and stopping the leak.

If you want help proving the cause quickly and setting up simple tracking that supports better decisions, you can see how I work here: https://grifflepop.com/services/