I am often asked by entrepreneurs “How much profit should my business be making?”
My answer is always the same and that is – “It depends”. It depends, because I don’t know how much money is invested in the business in the first place. This has a significant influence on how much profit is enough.
Unfortunately, most people that I meet, and these are usually owners of fast-growing businesses, are mistakenly looking at the wrong metrics to determine the financial performance of their business. Quite often they may not be looking at any metrics at all!
And this is where growing businesses come unstuck.
A better measure of performance
You might be wondering what could be a better measure of performance than revenue growth.
Sure, strong revenue growth is important but my challenge to you is that there is a different and far superior question that you should be asking.
The ultimate question that all business owners need to know, but generally don’t is: What is my return on capital employed?
What do I mean by this?
There is an opportunity cost of having money tied up in your business. After all, if it wasn’t invested in your businesses, it could be invested elsewhere. As an entrepreneur, if all you are looking at is the profits you are generating (and not the money you have invested to achieve these profits) then you are missing a large part of the story.
To learn more about return on capital employed and how to calculate this for your business, watch our two-minute video: The Ultimate Financial Performance Question Every Business Needs to Know
Other common financial mistakes entrepreneurs make
Other common mistakes that I see entrepreneurs make are:
1) Not identifying the true cause of a lack of cash flow
It is very easy to spot a cash flow problem but, quite often,a cash flow shortage is a symptom of an even greater problem. Problems such as a lack of profitability and an unsustainable growth rate will manifest as a cash flow problem. Many entrepreneurs jump straight to trying to fix the symptom (i.e. their cash flow) but don’t think about the true cause of the cash flow issue, such as their profitability, sustainable growth rate or poor working capital management.
2) Chasing sales volume for the sake of it
For successful entrepreneurs, growing your business is always top of mind. Quite often, however, I see entrepreneurs jump straight to growing their sales volume and never give a second thought to margin. While increasing your prices can be unsettling – often, even a marginal price increase can give you a far superior overall result. And your customers may hardly know the difference.
Helping entrepreneurs significantly improve their financial performance
MGI has just released a freeonline benchmarking tool My Catalyst that will put your financial performance under the spotlight and will help you to identify opportunities to significantly improve the financial performance of your business.
Is there a better solution to your cash flow woes? Can you achieve even more financial success with a slightly different strategy?Put your business to the test today and receive instant feedback.
See what My Catalyst reveals. Click here.
Grant Fieldworks as a business mentor and executive coach who helps aspirational business owners to accelerate their business growth. Grant has personal experience having built and sold his own business for several million dollars. He has helped more than 100 owners of high-growth businesses to understand how to significantly improve their financial performance and business value. He is also a partner at MGI South Queensland, an accounting and business advisory firm that specialises in helping family and private businesses achieve success.