It is true that there are dropshippers who made a lot of money. Because of this, many people think that it is easy. After all, you just have to look for a product, sell it, and then you make money.
What many do not know is that like any business, you must have a healthy profit margin. In dropshipping, you pay your other expenses from the profit you made. If your profit margin is small, you may find your business in the red.
Today, we will talk about profit margins, ideal dropshipping profit margins, and how you can calculate how much your product should sell for.
We will discuss:
- What is a profit margin?
- Tips to have reasonable dropshipping margins
- Realistic dropshipping margins
By the end of this tutorial, you should be equipped with the knowledge of how to price your products, how many products you must sell, and how dropshipping margins work.
What is a dropshipping profit margin?
While there are several types of profit margin, we will focus on the simplest one, the gross profit margin. Profit margin is a percentage of your profit against the cost of your goods.
For example, let us say that you bought an item for $100 and sold it for $150, your profit margin is 50%. How do you calculate this?
In the example, you put $50 on top of $100. If you divide $50 by $100, you get 0.5. If you multiply 0.5 by 100, you get a percentage value of 50%.
Profit margin essentially tells you how much money you are making. However, the example we have only accounted for the gross profit margin. In that example, the cost of the item is $100, but it does not include the cost of your Shopify store or the salary of your virtual assistant.
If you calculate your profit margin after all expenses have been paid, then you are looking at what is called net profit margin.
In the same example, let us take a look at a few possible expenses. Here are some stats:
- Cost of product – $100
- Payment for Shopify – $29
- Shipping cost – $3.99
- Product sold for – $150
In this example, you have $150 in your pocket because this is what the customer paid for it. Assuming that you only made one sale for the month and you offered free shipping, the total cost of running your business is $132.99.
As such, you still have $17.01. To determine your profit margin, you divide what remains by your total revenue. In this case, the equation is $17.01 / $150 = 0.1134. Now, you multiply this number by 100, and you get 11.34% as your net profit margin.
Is this good or bad? For as long as it is positive, it is good. Different businesses have different average profit margins. For dropshipping, which is part of retail, 5% is a good number for net profit margin.
Naturally, you want this number to be high. Higher net profit margins mean that you get to keep more money. In our example, you cannot live off a profit of $17.01 per month, so you either improve your margin or increase your volume of sales.
Tips to have reasonable dropshipping margins
A profit margin does not just happen because you want to sell an item for that price. Remember, you need to take into account several things, such as your competitor’s price, your expenses, and what your market can afford to pay.
Here are some tips so you can grow your profit margin, be it gross or net margins:
- Increase your prices – the easiest way to improve your margins is to increase your mark-up. If you bought an item for $20, maybe you should sell it for $50 instead of $25. As you can see, selling this item for $25 only gives you $5 in profit, or a gross margin of 25%. But if you sell it for $50, your gross margin is 150%.
- Reduce your expenses – expenses are the bane of any business, and they are the ones that have a massive impact on your net margins. Many dropshippers spend so much on ads, website maintenance, website apps, and virtual assistants.
Remove some of the services you pay for if they are dragging your business down. Particularly, cut down on the paid apps in your site. A lot of people end up with way too many apps thinking it will be great for conversion rates. Why not do actual A/B split testing to see which of these apps actually makes a difference to your sales? You will find quite a few are simply marketing hype!
I know when I have run my own Shopify stores I often end up being seduced by the allure of way too many add on apps. Find out what really helps and trim the rest back 🙂
- Avoid waste – in manufacturing, waste refers to products that are of low-quality that cannot be sold. They also refer to labor that is not needed. In a dropshipping business, an example of waste would be refunds or returns. Make sure to test your product for quality before selling it.
Another example is payment for ads that do not convert. We are not saying that you should stop advertising—go back to the drawing board and re-create your ad. Only scale up on ad expenses if the ad is converting.
- Increase your AOV – sales volume may increase your margins because the more sales you make, the higher your gross margins would be. AOV refers to the average order value. If your sales data indicates that customers usually spend $20 per purchase, ask yourself what you can do to increase that to $30.
You can upsell products or sell them at a lower rate in a bundle. While your gross profit is impacted because of your discounted prices, you will earn more if you can manage to sell in volume.
What are Realistic dropshipping margins?
Let us do a theoretical exercise to see what dropshipping margins look like. In our example, we will use AliExpress dropshipping. It is a 3D toy that sells for $3.78 on the site.
If we investigate in Amazon, it is being sold for $35. With this information, we know that we can sell it for $30 and make our price competitive. Shipping is free if we choose e-packet, so we can remove this from the equation.
Let us say that we sold 100 pieces in one month. In this case, here are our expenses:
- Toys – 100 x $3.78 = $378
- Shopify store – $29
- Facebook ad – $100
- Virtual assistant – $500
Our total expense is $1,007.
Our gross revenue is 100 x $35 = $3,500.
If we deduct our expenses, we still have $2,493. Therefore, our net profit margin is $2,493/ $3,500 = 0.7122 x 100 = 71.22%.
Not bad, right?
The only secret to having the best dropshipping margins is to look for products that you can buy for a really low price and then sell it for a high price. Selling in high volume is not always the best approach.
Selling 100 items with a profit if $10 is equal to selling 10 products with a profit of $100 each. The trick to succeeding in the dropshipping business is not sales volume but profitability. Use the drop shipping pricing formula I showed you to calculate if you can make money off the product you want to sell.
Use a margin calculator app if you are unsure how to do the math, but never sell something purely on your gut feeling! Do the math first!
Dropshipping margins are slim sometimes because wholesalers keep the inventory. As such, they have to spend money to store their products, as opposed to the usual retail business where you order in bulk and store the items yourself.
In business, you need to control your overhead expenses. It is also better to sell goods that allow you to have a high profit margin than those that you can sell at a low-cost.
In online retail, selling a high volume of items also entails a lot of work. And a lot of work means labor costs. It is much easier to make money by selling expensive goods that require less work but give more money.
All in all, you need to find the sweet spot for each product you want to sell. Aim for a margin (and thus selling price) that is too high and you won’t make enough sales. Set it too low and you won’t make enough margin to survive. Spend hours calculating realistic figures for each product you want to sell and make sure it stacks up before you start! Too many people just hit and hope when it comes to dropshipping 🙂