Cash

Eliminate Distortions in your Business Books

Simple Numbers, Straight Talk, Big Profits by Greg Crabtree - Kindle EditionWhy your Profit & Loss Statement is not worth the paper it is printed on

It is not uncommon for every business owner to start a discussion about their Profit and Loss Statement (P&L; Income Statement) with “well, that net income number is not correct,” then go on to list all of the things they would change, but their accountant makes them do it that way. Business owners need to take back responsibility and control of their financial reporting and follow these simple principles to make their P&L a useful document, again.

Distortion #1 – Owner compensation distortion.

You should get paid a market-based wage for what you do, and a return (dividend) for what you own. Most entrepreneurs mix their ownership with their job role in the business, not realizing that it creates significant distortion in the true profitability of the business.

If you are an S-Corporation, you may be motivated to avoid payroll taxes on wages and just take distributions. Unfortunately, the Internal Revenue Service (IRS) knows about that and will eventually get around to you, giving you a nasty payroll tax bill and a headache to boot.

If you have multiple shareholders working in the business, make sure everyone is being paid for the “job” they do and not getting a paycheck based on their ownership. As an owner, you get to pick any job you want to do, but the market picks your pay. You may choose to over- or under-pay yourself, but all that does is create distorted net income on the P&L.

Take Action:

Stop thinking small and pay yourself the right salary so your P&L tells you the true economic output of your business.  If you need to take distributions beyond your wage, we need to discuss why you are consuming more than you make!

Distortion #2 – Revenue is vanity!

When entrepreneurs get together, I notice that they all talk about revenue, but rarely about profit. I want you to stop talking about revenue internally and become a “Gross Margin” talker. My definition of Gross Margin is Revenue minus any Direct Costs that do not include labor. Most direct costs are really “pass-through” costs that you are paid in advance, or get terms from the vendors such that you essentially do not pay for them until you get paid.

Think of a construction contractor. They may tell you they did $20 million in revenue, but they actually had $17 million in material and subcontractor direct costs. Really, they are a $3 million services business. The same would be true for a marketing firm. I want them to celebrate a $50,000 services contract that uses no freelancers (so $50,000 Gross Margin) more than a $100,000 contract that uses $80,000 of subcontractors (only $20,000 Gross Margin).

It may hurt your pride a bit to talk about Gross Margin instead of Revenue, but you will start to realize that Gross Margin is the true top line of your business engine. If you identify your best customers as the ones yielding great Gross Margins, your marketing strategy will be much simpler and more effective. Most important, your team will understand their performance is measured in relation to Gross Margin, not Revenue.

Take Action:

Teach your team to think Gross Margin. If your accounting data does not report on Gross Margin now, adjust your bookkeeping process to never report on Revenue without Gross Margin, even if you have to use a ‘good-enough’ estimate.


Our guest contributor is Greg Crabtree, CEO of Crabtree, Rowe and Berger, and author of “Simple Numbers, Straight Talk, Big Profits!www.SimpleNumbers.me .

When Ann and I help a client to significantly scale up their organization, we must be able to count on their financials. If there is any doubt, we bring in Crabtree, Rowe and Berger to help cut through financial clutter and confusion to reveal the undistorted story, and help us calibrate just how fast the company can afford to grow.  – Ann and Gary Ralston


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To learn more and register your team, go to http://scalingup.cvent.com/columbusoh or contact Ann Ralston, events@ralstonconsulting.com or 614-761-1841 x2.


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Tuesday, March 7th, 2017 Business Advisors, Business Insights, Cash, Main Page, Scaling Up Comments Off on Eliminate Distortions in your Business Books

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