“Please, Sir, I want some more…”
We all know that line. I was sat at home the other day watching that famous scene in the workhouse. I must admit I love the bellowing of Sir Harry Seacombe as he roars ‘Morrrre’ to Mark Lester (yes I am old), it is so loud that poor Oliver drops his bowl and runs away.
I love everything about that version and have watched it so many times.
Yes, of course, I studied it at school, like most school children did, but the resonance for was in later life and the world of business.
Let me explain. I hear a lot of business gurus explain to their eager disciples that you must always pay yourself FIRST as if you don’t there will be no money left over at the end of the month to pay yourself. You can actually see the light bulbs go off in the wannabe entrepreneurs’ heads as they ‘hear’ the message, but actually, DON’T understand the principle, so take it literally.
There are numerous books on this philosophy including the much lauded ‘Profit First’, and it does appear to be the right idea, doesn’t it?
I am being a tad unkind to the gurus as it does make sense, and for a start-up, it will work. BUT – and it is a big BUT – as your business starts to grow and SCALE it needs feeding and starving it to pay yourself is definitely the WRONG thing to do.
Let’s look at a business that is looking to SCALE.
‘Money isn’t everything. But it’s right up there with Oxygen’
Of course, we all take oxygen for granted UNTIL we don’t have it then it is the most valuable thing we need on the planet.
Cash is like that in a business, with it, you can do SO much, without it the business will die.
The best business builders in the world know this to be true, in fact, one of the key measures any analyst will look at for big business is cash flow and how much of the revenue turns into cash in the bank.
We have all heard of Amazon. But do we really understand Amazon? Most people will not know that in 22 years of operation it has not focused on profit. It only made £5 million out of £1 billion revenue in its first five or six years. Amazon’s own business model, as per a napkin illustration by founder Jeff Bezos below, shows there was little or no room for profit. It is a closed loop with no mention of the word profit. He even mentioned this to shareholders in a letter in 1997.
In that letter, he wrote with a heading that summed up his philosophy ‘It’s All About the Long Term’.
He planned to buck the cycle of focusing on short term results for the long term. He knew that Amazon’s business model meant is would always make lots of CASH but he vowed to plough most of the profits back into the future of the business. In my opinion, Amazon is probably the biggest threat to any business out there due to his foresight and infrastructure.
The biggest investor on the planet, Warren Buffet, also focuses his investments on a term called free cash flow. Free cash flow is what is left when all the necessary monies are allocated. He is basically looking for a business that can generate cash, as you can do so much with a business that has it.
But let’s bring it back to YOUR business and why it is SO important to feed the business first.
I have worked with a lot of businesses; my own, others where I have had the privilege to be the CEO, clients, and other business Masterminders.
When your business is starving lots of things happen each and every day:
- The business, like we would be, will be weak
- It will have a lot of noise around it, so the focus will be on the lack of money and little or nothing else
- Every day decisions are made about survival, not about growth
- There is little or no chance to take advantages of opportunities
- The atmosphere is focused on ‘playing not to lose’, instead of ‘playing to win’
- There is little or no planning going on and it’s all about hand to mouth. A classic feast and famine mentality
- Costs are cut, unfortunately, they are often in the wrong places as needs must
- It is absolutely exhausting living in this environment
And finally, it normally results in the inevitable: a slow and painful death.
So, how am I doing for a motivational article?!
The reality is that most businesses have little or no idea of how to get out of this vicious circle and tend to put their head down and just throw themselves into working harder.
For me, there are a few things that I always do for ANY business and, generally when I run through the exercise with the owners, I can see the weight of the world lift off their shoulders.
1.Understand the fixed costs for the business (all the costs you have to pay regardless of a sale or not) – cut out the unnecessary.
2.Understand the gross margin percentage of the business (the money you have left from a sale after the direct costs relating to the sale are taken care of).
3.Divide the fixed costs of the business by the gross margin percentage to arrive at your revenue target.
This number is your break even figure. If you hit this figure your business will not make a loss or make a profit. But at least it stands on its own feet.
This is the first major hurdle your business needs to achieve and the quicker you get here the better it will be. Hence FEED it first.
Connecting the dots, let’s assume that your business’s fixed costs are 6,000 pounds per month and the gross margin is 80%. Then the turnover for the month is £7,500 for breakeven.
It is simple maths, but most business owners do not understand it in this context.
The next steps is:
4.How many of what do I need to sell to hit that number?
If our average revenue for our product is £250 then we have to sell 30 of them to break even.
The magic is if we hit 40, 50 or above. For each additional 10, we sell, the gross margin value goes straight to profit, which in our case will be 10 x 250 x 80%, or £2,000.
Unfortunately, I would say 90% of the businesses will have no idea of what that number is, so just throw themselves into it.
The clarity helps everybody align to achieve that number, measure the progress and learn from every mistake.