Published January 2023
In working with small business owners since 1987, I’ve discovered this much about the money they make: It doesn’t start with the quality of the product or service they sell. It also doesn’t start with employees, markets, competitors, or the current state of the economy. The root of profitability in small businesses is deeply embedded between the ears of the business owner. It’s what we believe we should be earning.
Let’s start with this understanding: In small businesses with up to $10 million or so in annual sales, profits and personal income share the same space in an owner’s head. So, when we talk about profits, we’re really talking about the owner’s personal income.
At the risk of oversimplifying, let me offer the following. We grow our profits at the rate that we learn to accept money in our lives. As a result, there really is no good or bad rate; there is simply the rate we’ve chosen to live with. This is also why, if we say we want to increase profits in our business, the place to start is by looking inside ourselves and deciding what we can live with.
Every month in the U.S., over 500,000 new businesses are started. Most of these businesses will never exceed $1 million in annual sales. Over 80 percent don’t have employees beyond the owner. Many of them started as a result of what business guru Michael Gerber calls an entrepreneurial seizure—a soon-to-be entrepreneur who feels they can produce a better product or deliver a better service than anyone else in the world, or at least in the place where they’re currently working.
All too often, though, rather than starting a business that will light the world on fire, entrepreneurs only succeed in buying a lousy job where we’re underpaid and overstressed. In the throes of our seizure, we often fail to put pencil to paper to figure out just how much money we’d actually need to make in order to be successful.
Instead of using basic accounting principles to determine what to charge for our services so today’s costs are covered, a little is in reserve for slow times, and a little is set aside for the future, we base pricing on personal beliefs about money that were developed over our lifetime and influenced by a cast of teachers, platitudes, and personal experiences.
At the end of the day, small businesses don’t have financial problems as much as small business owners have financial issues that we work out through our businesses.
Many of our money beliefs start in childhood, where parents and close family members are our first money teachers. Most of these lessons were learned during dinner table conversations, through seeing our parents’ struggles or successes with money, from the friends we grew up with, and sometimes even through teaching at church.
Money lessons are also learned through old sayings we hear and repeat without even thinking about their underlying message, such as “A penny saved is a penny earned” and “A fool and his money are soon parted.”
In order to change our beliefs about money, we sometimes need to challenge the sources. We can gain a clearer view of these beliefs by occasionally stepping back and asking ourselves a few questions.
By taking time to evaluate our answers to these questions, we can gain insights into our early money lessons. From this we can then ask ourselves if these lessons still make sense in our adult lives. We can also see how they play themselves out years later in our business decisions.
The early, startup years of a business are another time when we are especially susceptible to learning money lessons. These are typically lean years when we need to squeeze performance out of every dollar. It’s also a time when it’s easy to adopt a scarcity mindset about money. While this mindset can help control unnecessary spending, it can also cause us to be overly cautious with our money and slow the growth of the company. It can lead us to pro-
ject our own scarcity beliefs about money onto our customers and keep us from charging what we need in order to grow our business.
Just as it’s necessary for us to stay on top of changes taking place regarding the science or technical aspects of the services we perform, it’s also critical that we are aware of how our company has changed and the corresponding adjustments we may need to make to our pricing structures.
Regularly asking ourselves a few simple questions about our business can help us avoid financial struggles as our company grows.
Do we know how to charge for our work, or are we simply charging the going rate? If we don’t use sound accounting principles to establish our prices, we may come to the end of our working career with very little to show financially for our years of effort.
Are we willing to make the tough calls that lead to financial success? This can mean addressing performance issues, letting nonproductive people go, firing unprofitable customers, etc. Usually this means dealing with the part of many entrepreneurs’ personalities that we don’t like to address—conflict avoidance.
Have we established sound financial habits in our business? Do we prepare and review financial reports regularly? Or do we assume that if we still have checks in the checkbook, we still have cash in the bank? Are we using the company’s checkbook as a glorified, personal piggy bank, once again living out our childhood lessons?
We don’t need to be a bookkeeper or accountant or have an advanced degree in finance to understand business numbers. But we do need to pay attention to them, and it helps to know that profitability is inversely proportional to the excuses we give about making money.
We must know our numbers because, like it or not, business is all about numbers: accounting numbers, bank balance numbers, marketing and sales numbers, customer satisfaction numbers, operating efficiency numbers—the list goes on and on. Ignoring our numbers won’t make them go away.
If we don’t understand numbers, then we need to have someone who does explain them to us. And if we do understand them, we should help someone else who doesn’t. Using the excuse that I’m not a numbers person is the same as someone saying they just don’t know how to read or write. It’s sad, dangerous, and avoidable.
Every month our income statement (P&L) and balance sheet should be printed. Half the value of doing this is in reviewing and evaluating the actual information they contain. The other half is in forcing ourselves to do all the necessary work (turning in receipts, accounting for all purchases, and completing invoices) to produce the reports. Money is like a friend. If we ignore the friend, they’ll go away. If we pay attention to them and visit often, our relationship grows (another childhood lesson).
Even if our year-end taxes are filed using cash reports, I recommend printing accrual financial reports throughout the year. This shows a much closer relationship between monthly sales and expenses and provides better information on which to base management and pricing decisions.
A P&L serves a similar purpose to the speedometer on a car. It tells us how fast we’re going. The higher the sales number, the faster the company is going, and the more important it becomes to pay close attention to the expenses. We don’t want to run out of coolant or oil when our car’s racing. It tends to bring things to a grinding halt.
The most important way to track expenses is to note the percent each of the expense numbers represents against total sales. As Dr. Larry Steinmetz tells us in his book, How to Sell at Margins Higher Than Your Competitors, businesses fail or succeed based on the percent the numbers represent, not on the whole number.
In a similar manner, the balance sheet acts like an odometer. It tells us how far we’ve gone. It also tells us how well we’ve done on our journey. In fact, the most important number in business resides on the balance sheet. It’s the next-to-bottom number—the equity. This is the value we’ve managed to build in our business since it
started. It’s a pretty important number to track. The fact is, the winners in the game of business aren’t the ones who have the most sales, do the best work, or have the fanciest business cards. It’s the ones who have the most equity.
The key to making money in a service business is being able to convert activity into profit by charging appropriately for it. We charge for time and the value that time brings to our customers.
For solo operators, we must charge enough to cover all our costs today (including taxes, rent, insurance, fuel, marketing, vehicle costs, materials, etc.) plus enough to set aside for slow times or a rainy day and still have something additional for when we retire.
If we have people working for us, we need to do all these things plus charge enough to attract and keep highly talented people. The way to track how successfully we’re doing this is by regularly printing and evaluating our financial reports. This way we can evaluate how we did this month, how we’ve done so far this year, how we’ve done compared to last year, and, most importantly, how we’re doing compared to how we said we wanted to do in our business plan.
All this talk about money comes full circle when we understand that the money we ultimately make in our business, whether we’re a one-person operation or a multi-million-dollar company, is a reflection of how we feel personally about money. The starting point in earning deep profits isn’t found on our income state-
ments. It’s found between our ears.
Chuck Violand is the founder/principal at Violand Management Associates. For more information, visit violand.com, call 330-966-0700, or email email@example.com.