Among the largest contributors to the failure of both small and larger businesses, are either, they fail to make a profit or they incorrectly account for their cash and run out of money to pay their debts and tax liability.
This is particularly acute in small businesses where the owner/operators do not necessarily have much experience in financial matters and find themselves in an unexpected cash flow crisis.
The Profit Autopilot turns conventional accounting on its head by starting with a focus on profit first. It also introduces a simple set of "Piggy Banks" that give you a “set and forget” approach so that when tax and other expenses become due, you have sufficient funds to pay. And, along the way, you have also taken out not only a Wage but a Profit as well.
The Failure of Traditional Accounting
Traditional accounting, and its practitioners, are not a good fit for the day to day management of a business. In fact, many business operators look upon a visit to the accountant purely for tax planning reasons and make very little use of - and are probably offered very little - management accounting information.
Even worse, by the time you do get to your accountant, this information is historical fact and is either good news (I made a Profit) or bad news (I made a Loss). By that time, there is nothing that you can do about it except to resolve to do better next year.
Even worse, by the time you finally get last year’s accounts back from your accountant it is probably a good way into the next financial year leaving only 6 to 9 months to try and turn your business around once you receive the historical documentation of last year’s Profit.
Although professional accountants can provide management accounting, they very rarely seem to offer it. Because it comes along with what many struggling small businesses consider to be hefty hourly rates, the small businesses decide to forgo the service even if it is offered.
In this Profit Autopilot service we turn the traditional approach to measuring a Profit - indicated by the formula below - on its head.
INCOME - EXPENSES = PROFIT
This formula leaves a Profit as the "leftovers" in the operation of your business; no wonder so many businesses don't make much in the way of a Profit.
Engage Your Profit Autopilot
You know what the autopilot on an aircraft does. The pilot decides where they are going and what altitude they will fly at, engages the autopilot and sits back with arms crossed while the autopilot safety takes the aircraft towards the destination.
The pilot can relax – but remain vigilant – because the autopilot is making the necessary minor corrections to allow for altered flight circumstances
That is what the Profit Autopilot does for your business.
Many authorities who write about how you can save money, and get yourself out of personal debt, talk about taking a certain percentage of your income as soon as you receive it and putting it to one side to pay for your known expenses like debt reduction. They may also set aside another portion of your Income, as soon as you receive it, as compulsory savings so that, over time, you get money put aside in a "Piggy Bank" for such things as your retirement or a need such as the education of your children.
Another "Piggy Bank" that can get set aside under this system is a Provision for Income Tax if that has not already been deducted from your Salary by an Employer.
Effectively, whatever is left over after these compulsory deductions is available for you to spend as you see fit. You can do so because you know you are automatically reducing your debt, automatically leaving money to pay your tax when it falls due and automatically saving for known expenses like children's education.
As a consequence, you can sleep comfortably at night knowing that you are financially ok.
Of course, you may find that you don’t have enough Income to cover these compulsory deductions you place upon yourself, but that simply means that you have to pull in your belt in order to be able to cover your known costs. You know immediately if you will not be able to cover your costs because you don’t have the money to put into your “Piggy Banks”.
We can use exactly the same logic when you think about managing a business because it is in many ways rather like managing your household economy; but probably on a larger scale.
Instead of the concept:
INCOME - EXPENSES = PROFIT
we are going to change this formula around and make deductions right up front from your Business Income to ensure that you have sufficient money to pay your expenses when they fall due.
Our revised accounting equation under the Profit Autopilot system becomes:
INCOME - SALARY - PROFIT = OPERATING EXPENSES
Here is the system we are going to set up:
- Take whatever Business Income you receive.
- Deduct a sum from this sufficient to pay yourself a market rate Salary.
- Deduct a sum calculated to give you your preferred level of Profit that you need to ride out tough times and eventually to make a Profit Distribution back to your owners.
- Deduct a sum sufficient to cover any Taxes that will be payable.
- Set up "Piggy Banks" for each of these deductions and put the money deducted into them.
- At this point, we have deducted all of the expenses that we consider to be absolutely necessary from the Income and this leaves:
- An amount of money available to cover Operating Expenses.
If the amount of money left available from the “Income - Salary - Profit - Tax” deductions above to pay Overhead Expenses is less than those expenses then you are clearly living outside your means/cash flow. You need to work on your business to reduce its expenses in order to pay yourself a reasonable Salary and a decent Profit for all your effort and risk.
If, even after trying very hard to achieve this, you cannot cover your expenses then you have a Business Model that is never going to be viable and it is probably better that you know this sooner rather than later.
The good thing about this Model is that there are no surprises with your Profit and no desperation when you find that you cannot pay your bills. You know this up front.
This top down approach to taking a Profit is closely related to the methodology we suggest for Business Planning in general. You start with a destination in mind and then work out a way of getting there. With the Profit Autopilot approach, you work out the Profit and Salary that you want and then design a business to achieve them.
With one stroke, the Profit Autopilot ensures you have made a Profit and a Salary and that you have sufficient cash to pay the Tax man when they come calling. You have taken away 3 of the financial concerns of a business.
You have also given yourself a straight forward method of determining how rapidly you could grow your business.
We are going to show you how to setup a Business "Model" in a spreadsheet. Changing the Income and some of the Operating Expenses will immediately show you when you are generating enough surplus to be able to increase the resources, like labour, that you put towards increasing your Income. Uncontrolled and unmeasured growth in a business very commonly causes a cash flow crisis and even a rapidly growing business can easily fail when it runs out of cash.
Growth can trigger these crises because you may have to spend money in advance on (for example) additional labour, machinery and office space. These are costs incurred before they earn any Income to pay for themselves.
With the Profit Autopilot, you will see where adding in these additional costs causes you to go into the negative and tells you that you are not yet ready to go down this growth path unless you can finance it with Capital from some other source.
Because there is a lot to grasp in the Profit Savvy approach, we have divided the process into four articles:
- We begin with an introduction to Profit Autopilot which you have just read.
- Then we look at building a Profit Focused Business Model designed to give you confidence that you will earn enough to pay you a Profit and a Salary. There are both detailed written, and shorter video versions, of how to get the profit and salary you desire - in advance.
- From there, we discuss how to set up a system of “Piggy Banks” to be confident of having cash for expenses when you need them.
- Finally, we review what you have covered and introduce the next Profit Savvy projects which continue you on the path of building your profit.
We do not know your business and its environment so we can only offer general advice on what might assist you to grow the Profit for the business you presently have. You should always seek professional advice on specific matters only discussed in general terms here.
As discussed above, we cannot guarantee results in any particular period of time or amounts, we do not know your particular circumstances.