How Profit Maximization Works: 6 Ways To Maximize Profit

In the autobiography of Lee Iacocca, who led two of the Big Three US automakers as CEO, the executive sums up his hard-won business philosophy in a simple sentence: “In the end, all business operations can be reduced to three words: people, product, and profits.”

That last factor, profit, is the result of subtracting your company’s total cost from total revenue. Companies can maximize profit by increasing revenue and reducing business costs. This is, however, a balancing act: Raise prices too much and customers may look elsewhere; cut production costs too much, and product quality might decline.

Finding the ideal profit maximizing point is both an art and a science. Here’s what to know.

What is profit maximization? 

Profit maximization is how your business fine-tunes production costs and pricing so you can generate the most profit possible. Finding this equilibrium takes careful analysis, patience, and a certain amount of trial and error. At some point, efforts to boost revenue and cut costs will result in diminishing marginal returns—or even tip over to less profit per sale. You’re looking to find the level of output that brings you the highest profit.

What are marginal revenue and marginal cost? 

To maximize profit, it’s essential to understand the difference between marginal revenue and marginal cost, as well as the interplay between them. Marginal revenue (MR) is the additional revenue gained by selling one more unit of your product. Marginal cost (MC) is the additional cost incurred for that one additional unit produced.

If marginal revenue is greater than marginal cost, your profit will increase as you make more units, and you have room to keep producing more. If your marginal cost exceeds marginal revenue, you’re producing too much; selling more units is actually resulting in losses.

You’re looking for the point where marginal cost and marginal revenue converge: Once those figures are equal, it means you’ve been able to maximize profit on all the units you’ve sold so far. That balance in the profit maximization formula means your profit is as high as possible. If you sell any less, you’re missing out on potential profit—and if you sell any more, your costs will outweigh the benefits.

An example of marginal revenue and marginal cost

Say you sell water bottles made of recycled ocean plastic, and you’re running paid ads for your new line of kids’ bottles. Your selling price is $35 a bottle, which is your marginal revenue. Producing, marketing, and each bottle costs you $28, which equals your marginal cost, as shown in the following formula: 

$35 MR - $28 MC = $7 profit per marginal unit

You increase profit as you sell more, so it makes sense to keep producing. To boost sales, you decide to increase your ad spend. You launch more campaigns, try new channels, and get in front of more eyeballs. But now your costs have increased too, and it’s taking more spending to acquire new customers. Your marginal cost balloons to $37 per unit. The formula now shows:

$35 MR - $37 MC = $2 loss per marginal unit 

That means you’ve passed the point of profit maximization; producing a greater quantity is now working against you, and you need to rebalance your costs and revenue. 

You decide to scale back your ad budget, but you continue to spend a bit more on new channels. In time, your marginal cost falls to $35 a unit: $35 MR = $35 MC. The final unit you’re selling has reached the perfect equilibrium—you’ve found the point where the marginal revenue curve and marginal cost curve intersect. This means you’ve successfully tinkered with your costs and sales to achieve profit maximization.

How to maximize profit by increasing revenue

• Use sales data to identify marketing opportunities
• Improve conversion rates
• Increase customer lifetime value

To increase your revenue, you’ll need to acquire new customers, retain your existing customers, and increase sales overall. A few strategies can help with this:

Use sales data to identify marketing opportunities

Studying your sales analytics—metrics like sales performance and customer behavior—can provide rich insights into both opportunities and areas of concern. Carefully analyzing this data can help your business do the following:

• Identify weaknesses in your sales funnel—like a high conversion rate but relatively few website visitors, which signifies an opportunity to focus on top-of-funnel marketing strategies such as social media campaigns and paid ads.

• Rebalance the allocation of budget based on which initiatives and channels result in the best return on investment (ROI)—for example, whether TikTok content drives more sales than Instagram.

• Discover where you might recapture potential buyers who quit the customer journey, which can highlight opportunities like reducing cart abandonment through reminder emails, discount codes, and retargeting ads.

Improve conversion rates

The most effective way to drive sales is to increase your average conversion rate, which is the percentage of visitors who take a desired action—in this case, making a purchase. Increased conversion rates mean more sales from the same amount of website traffic, leading to a higher ROI. Here are a few tips to improve website conversion:

• Ensure your site design encourages conversion, including on mobile.

• Highlight social proof by prominently displaying customer testimonials and reviews. 

• Review heat map reports to see where customers spend time on your site

• Run A/B tests to determine whether certain landing pages, site designs, prices, and other factors drive more conversions.

• Reduce any friction for customers in the buying journey, such as slow site speed.

Increase customer lifetime value

Customer lifetime value is a metric that estimates the total net profit your company can generate from a customer during their entire relationship with your business. Understanding CLV can vastly improve customer retention, which pays off because it’s much cheaper to retain customers than it is to acquire new ones. These are a few ways to boost CLV:

• Create a loyalty program that encourages repeat purchases with attainable and desirable rewards, such as exclusive discounts, special-edition products, and freebies.

• Run deals exclusive to existing customers.

• Offer attractive upsells, such as bundled products for a discounted total package price to the customer.

• Make returns easy to boost customer satisfaction.

• Grant strategic policy exceptions for your most loyal customers, like allowing a return even though it’s a few days past your standard time frame.

How to maximize profit by reducing costs

• Optimize fulfillment and shipping
• Lean on automation for repeatable tasks
• Negotiate better contracts with suppliers

On the other side of the profit maximization equation, you can work to minimize your costs (which consist of fixed costs and variable costs) in a few ways:

Optimize fulfillment and shipping

Shipping is a necessary expense in ecommerce, but there are several ways to optimize your fulfillment and shipping practices:

• Use a third-party logistics (3PL) provider for order fulfillment, which can eliminate the expenses of maintaining your own distribution center.

• Negotiate rates with shippers, and seek discounts for volume business. 

• Reduce box sizes to save on shipping, opting for the smallest box your products can fit in without risking damage in transit.

• Use shipping bags or poly-mailers, which are smaller in size and weigh less than cardboard boxes, and can also be cheaper and easier to store.

Lean on automation for repeatable tasks

Common, repeatable tasks in your workflow often represent an opportunity to automate using artificial intelligence and other tools. Automation helps ecommerce businesses improve time management and reduce effort, which ultimately results in lower costs. It also frees up existing employees to spend time contributing in more meaningful ways, like business development and maintaining strong client relationships. There are many ways to leverage specialized tools to save time:

• Use inventory management software to automatically create purchase orders when stock levels fall below a certain threshold.

• Send automated emails to customers after their purchase to ask for feedback or to offer future discounts.

• Employ customer service automation to assist shoppers with basic tasks.

Negotiate better contracts with suppliers

You can often negotiate terms with vendors, whether they’re manufacturing your product or running your social media—especially if you have a degree of leverage. A better deal may result from more spending, a long relationship, or a competitor offering better prices. Consider taking actions like these:

• Leverage increased production volume to negotiate lower labor costs per item.

• Shop around to get a sense of market price, and ask your vendor if they can match a competitor’s offer.

• Revisit terms as your business grows and evolves.

• Lean on long-term relationships, requesting lower prices to reward your loyalty.

• Ask for multiyear contracts to lock in favorable terms.

• Bundle services, such as ad copywriting and backend campaign management, to get lower prices on both.