Seeing the Whole Picture: Why Overhead Matters in Product Profitability

Looking Beyond Direct Costs

For product-based businesses, profitability often starts with a simple equation: revenue minus cost of goods sold. But this narrow view can create blind spots, especially as a business grows and overhead expenses start to weigh heavily on margins.

At Part Time CFO Services, we regularly work with manufacturers, distributors, and retailers who initially evaluate product success based purely on direct costs, materials, packaging, labour, and logistics, without considering the whole picture.

Product Interactions with Overhead

The reality is that every product carried by your business interacts differently with the fixed and variable expenses that sustain operations. Some products require more involvement from sales or administrative staff before they ever reach a customer. Others demand greater warehouse space or longer storage times. Some are high-touch and low-volume, while others are shipped efficiently in bulk. These differences matter, and they should influence how you evaluate profitability.

Fixed costs such as rent, utilities, insurance, software, and the salaries of your non-production staff are all essential to delivering any product. While these costs may not fluctuate with every sale, they still need to be covered by your pricing model. Suppose you treat these expenses as background noise rather than key components of product cost. In that case, you may inadvertently champion products that erode your margins or underinvest in those that are truly profitable.

Tailoring Overhead Allocation

Rather than relying on one-size-fits-all assumptions, consider how different products interact with your overhead. A product that consumes disproportionate warehouse space or requires extra handling from staff should bear a greater share of the overhead burden than one that moves quickly and efficiently through your system.

At the same time, shared services such as customer support, IT, and office supplies may be more evenly distributed across departments. But even then, what defines “even”? By unit sold? Revenue generated? Labour hours logged? Each method has implications and outcomes that impact your financial decisions.

One practical approach is to begin with a base overhead allocation based on a percentage of revenue. This means allocating overhead proportionally based on each product category’s share of total sales. For example, if one product line represents 50% of total revenue, it should absorb 50% of the evenly distributed overhead costs, such as office supplies or general administrative expenses. This provides a foundational split across all products, giving you a consistent and equitable starting point. Office supplies, for example, might be fairly distributed this way since their usage is less tied to any one product.

From there, refine the allocations where it makes sense. If one product requires significantly more warehouse space or consumes more hours from key team members, you can adjust the product’s share of the overhead accordingly. This hybrid method, which starts with revenue as a base and then adjusts based on usage or effort, offers both structure and flexibility.

Refining with Activity-Based Costing

Another helpful technique is activity-based costing. This method assigns overhead based on the actual use of business resources. For example, if one product requires 40% of your warehouse storage and twice the customer service time of another, its overhead allocation should reflect that. If you’re not ready for that level of detail, a proportional allocation based on labour hours or simple revenue can offer a practical, though less precise, approximation.

The point is not to overcomplicate, but to be intentional. A tiered contribution margin analysis can help, too: categorize products by gross margin and overlay estimated overhead absorption to find your actual breakeven points and most profitable lines. This enables you to avoid misjudging a product as successful simply because it sells well or has strong gross margins.

Better Decisions Through Clearer Insight

Once you begin evaluating profitability with overhead in mind, the decisions become clearer. Pricing adjustments, SKU rationalization, warehouse planning, and even staffing choices can be made with greater confidence. You might find that a product you considered a cornerstone is underperforming once overhead is considered, or that a modest seller actually supports the business better than expected.

At Part Time CFO Services, we support product-based businesses in building reporting systems that reflect this broader view. We help clients understand the financial implications of each product beyond surface metrics, ensuring leadership teams can prioritize, price, and invest wisely.

If you’re relying on instinct or incomplete data to steer your product decisions, it’s time to upgrade the conversation. Let’s examine together what your products are truly contributing, not just in sales, but in sustainable value.

Action Item: Take Inventory of Your Overhead: Begin by pulling a report of overhead expenses, both fixed and variable. Then, group your products by category and assign each a share of those overhead costs based on their percentage of total revenue. Use this as a starting point to identify areas that may require further refinement based on space utilization, staffing requirements, or support needs. If this sounds overwhelming, we can help you create a custom allocation model tailored to your business needs.