Making Money Simple with Profit First: An Overview of the System
Money is no longer tangible, in a rapidly changing landscape of small business finance the ability to understand money is difficult because it is just numbers on a screen in the bank account that seems to sift through your fingers like sand as you tap and go with the card or Apple watch.
The Profit First system, pioneered by Mike Michalowicz, offers a transformative approach that takes money from numbers in a bank account to a manageable tool in your hand that rewards you for running a business. It is a mindset shift prioritising profit, ensuring sustainable growth and financial health for businesses.
The Core Concepts of Profit First
The traditional accounting equation, Sales- Expenses = Profit, often leads to profit being an afterthought. Profit First flips this equation to Sales – Profit = Expenses. This subtle shift puts the focus on the outcome you are working in the business for – profit and brings clarity around how much is available for the business to operate on.
By automatically deducting profits from each sale, businesses are compelled to operate within the means of what’s left, fostering a culture of discipline and efficiency in expense management.
Pillars of Profit First
Small Plates Principle
Based on Parkinson’s Law, this principle states that the demand for a resource increases to meet its supply. That means working from one bank account, a business owner sees the full bank account and spends as per what is in the account.
Many business owners are working from “figures” in their head and making financial decisions based on the health of the bank account. This works until the BAS or Income Tax is due and the business owner is scrambling to find the money for the unaccounted debt.
By dividing the income up into “smaller plates” ie. by transferring the GST and Tax aside into separate bank accounts the business will naturally become more frugal and resourceful with working with the smaller plate size for operating expenses.
This principle emphasises the importance of prioritising profit. Taking profit out first becomes the focus, shifting the mindset from survival to sustainable growth.
To avoid the misuse of funds, Profit First advises keeping the profit account out of immediate reach, ensuring that it is not used for unplanned expenses.
Enforce a Rhythm
Regular financial check-ins and allocations are recommended instead of sporadic management, creating a consistent financial rhythm that prevents the panic mode of cash management.
Implementing the Profit First Model: A Step-by-Step Guide
Implementing the Profit First model can be broken down into key steps to ensure effective management of business finances.
Setting Up Core Accounts
The first step involves establishing five essential accounts: income, owners’ compensation, operating expenses, profit, and tax. This division simplifies the financial structure and ensures clear separation of funds for specific purposes.
Understanding and Applying Allocation Percentages
The model uses Current Allocation Percentages (CAPS) to reflect how finances are currently distributed, serving as a baseline for financial planning. Target Allocation Percentages (TAPS) are then set as goals for future allocation, guiding the business towards its financial objectives.
Routine Financial Review and Adjustment
Regular assessment of financial standings against the TAPS is crucial. This involves adjusting the CAPS to align more closely with the TAPS, ensuring continuous progress towards financial targets.
Disciplined Income Distribution
Income received is distributed across the accounts by the TAPS. This disciplined approach aids in maintaining focus on profitability and financial stability.
Continual Monitoring and Strategic Adjustments
The final step is continuously monitoring the business’s financial performance and making strategic adjustments. This includes scrutinising operating expenses for cost-saving opportunities and ensuring the owners’ compensation aligns with personal needs and business goals.
To Sum It Up: How Profit First Makes Money Making Simple
Reverses Traditional Formula: Instead of calculating profit as what’s left after expenses (Sales – Expenses = Profit), Profit First changes this to Sales – Profit = Expenses, ensuring profit is prioritised.
Promotes Financial Discipline: Taking out profit first limits the funds available for expenses, encouraging more strategic and disciplined spending.
Simplifies Account Management: By setting up five distinct accounts (Income, Owners Compensation, Operating Expenses, Profit, and Tax), it segregates finances for better management.
Encourages Regular Financial Review: Regular check-ins and allocation adjustments promote a proactive approach to financial management, preventing reactionary and unplanned spending.
Adaptable to Various Business Sizes and Types: Profit First is versatile and suitable for various industries and business sizes, making it broadly applicable.
Facilitates Mindset Shift: This method is not just about numbers; it’s about changing the business owner’s mindset to prioritise profit, leading to a more sustainable business model.
Leverages Technology for Efficiency: With digital banking solutions and accounting software, the implementation of Profit First can be automated, making the process more efficient and less time-consuming.
Provides Clear Financial Goals: Current Allocation Percentages (CAPS) and Target Allocation Percentages (TAPS) help set and achieve specific financial goals.
Facilitates Debt Management: For businesses dealing with debt, the method can be tailored to address debt repayment more effectively, aiding in better financial health.
Shift Your Mindset with Additional Business Concepts
In the context of Australian businesses, Additional Business Concepts can play a pivotal role in integrating the Profit First system into your business model. We are your Profit First Certified Professional Bookkeeper committed to maximising your income.
We provide tailored advice and support, ensuring your financial strategies align with your business needs and growth objectives. By partnering with a firm that understands the nuances of Australian business operations and financial regulations, you can harness the full potential of Profit First, transforming your business into a thriving, profit-generating entity.
To start your journey with us, fill out our Profitable Business Questionnaire.