Many of my small business clients believe that growing their business is a huge task and they are often reluctant to take it on. But once I demonstrate how small changes can result in explosive profits, they are keener than ever to embrace the challenge.
If you want your business to be successful over the long-term you need your business to operate profitably. The first step in managing your business success is establishing clear goals and selecting the Key Performance Indicators (KPI’s). The key performance indicator not only has to act as a measure of business performance, it also has to drive behaviours in line with your organisation’s vision, mission and values.
Many small business owners uses Sales Revenue as the Key Performance Indicator for their organisation, but there are several problems with this KPI. The first is that it is entirely possible to increase sales revenue significantly but still run your business into the ground. The second is that it can drive behaviours that are not in line with your business values.
The better choice of KPI to measure business success is Net Profit. This is the bit that is left over after you take out all the costs of running your business. If you are not making a profit, chances are better than good that your business will not survive in the long-term.
Understanding the elements that drive profit in your business and managing them as discrete processes in their own right can help you better understand where your focus needs to be in order to make the small changes that will drive explosive business growth and profit.
The first step is to become familiar with how Net Profit is derived. Then we will take a look at how small changes in each of the elements of this algorithm makes a big impact on the business’s bottom line.
The Net Profit equation looks like this:
Sales – Cost of Goods = Gross Profit – Expenses = Net profit
If we substitute numbers it would look something like this (and typically in about this proportion):
$100,000 – $70,000 = $30,000 – $20,000 = $10,000
Once you know the elements that drive the Net Profit, you can begin working on those things that will help improve your business performance.
Say, you made it your goal to improve each of the profit elements performance by five percent. Would your business experience a five percent improvement to Net Profit? The short answer, and probably not one you are expecting – is no. Because this is where the magic happens.
Using the above figures as a starting benchmark, you put your head down and you improved each of the elements by five percent.
You improved your online marketing which helped to drive the much-needed five percent increase in sales. You took a look at your cost of goods sold, and armed with your previous years purchasing records, you negotiated a five percent discount with each of your suppliers. You put your business expenses under the microscope and found five percent savings by changing from landline to VOIP for all your internal calls and negotiated better deals on other expenses. Seems like a lot of work for just five percent improvement.
Let’s take a look at the impact these small changes have made to your business’s bottom line.
The equation would now look like this:
$105,000 – $66,500 = $38,500 – $19,000 = $19,500 Net profit
Amazingly, a five percent improvement in business performance for each of the elements across the board, has nearly doubled your net profit!