If your company made only one dollar in net income last year, many would say that your company had a profit. The ugly truth is that your company must earn more than minimal profit in order to stay in business for one more year.
Being profitable means that you earn
more than the minimal level of profit each year
Profitability is equal to Sustainability because companies that are profitable qualify for bank loans, can negotiate better inventory costs from suppliers, and attract investors or partners (so you can retire with dignity and an income).
So what is the minimal level of profit for your company? That is the hard question that YOU must answer, because no consultant can know the right answer for you. Anyone who tells you the answer is, at best, projecting the “right” answer for himself/herself.
Your minimal profit consists of three parts:
- Reasonable compensation for your work in the business. (What would you pay someone else to do what you do every day?) If your role is pure leadership with no operational duties, you do not require compensation because you will earn greater profit.
- Return on Equity for the money you invested in the business (After all, you could invest in a bank certificate of deposit and earn interest without any effort, skill or stress.)
- Reward for Business Risk you take every day (i.e., risk of lawsuits, risk of customer non-payment, risk of chemical spills that disrupt your operations, etc.).
So, if you want to know the “right” answer, then ask a potential investor what he/she would need in each category in order to justify buying your business. Remember, your business is worth what someone is willing to pay for it in a fully negotiated agreement.
What is your measure of Profitability? Share your ideas and let is all build a better economy. Check back next week to learn the author’s method to calculate Profitability.