Business Planning Considerations: Profitability
Sooner rather than later in the business-planning process, you need to delve into the nitty-gritty details of your company’s finances — your income statements, balance sheets, cash flow, budgets, and all the details that can make or break your company’s future.
At this point, however, your assignment is more basic: Figure out where your business revenues will come from. Who will pay? How much? How often? And what portion of every sale will make its way to your bottom line in the form of — here’s the magic word — profit.
Following are terms you’ll hear on your journey to profitability:
In the black: If your revenues exceed your costs, you’re in the black.
Red ink: If you’re not in the black you’re losing money. The negative difference between your revenues and your costs is called red ink.
Fixed costs: Some business costs — rent or salaries, for example — don’t change often and must be paid on a regular basis, no matter how many sales your business is (or isn’t) making. These are called fixed costs or overhead.
Variable costs: Other costs, called variable costs, fluctuate with your sales volume. They include the materials that go into producing and marketing your product or service.
To keep out of red ink, you need enough revenue coming in to cover all your costs. But to break into the black, you need to price your goods and services to cover your costs plus a little (or more than a little) for your bottom line. That’s called profit. Don’t leave your business plan without it!
The first step toward profitability is to create a financial projection for your business.
Here are the financial projections for a restaurant with plans to open in Chicago. The owners are looking for investors, so they want to present a convincing business model as a part of their business plan, and they want to show that revenues will exceed costs and deliver a profit.
On the revenue side, the restaurant owners calculate how much they’ll make on each meal and how many meals they plan to serve. On the cost side, they enter their fixed costs (for rent, loans, utilities, insurance, and wages) and their variable costs (food, supplies, part-time help, and so on). Their estimates show that they plan to turn a profit of $1,950 a week, or almost $8,000 a month.
Based on their experience in the restaurant business, however, the owners know that their projections won’t turn into reality overnight — that’s part of the reason they want investors. They project that the restaurant will incur losses during the first six months, break even during months seven and eight, and turn a profit starting in month nine.