Project Person // Primer #8

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For the first few years of my first business, I viewed profit as the money that was leftover—the stuff I used to pay for frivolous extra things like idk, my salary.

Later, as I began to understand how to be intentional about profit, I remember saying to a mentor, “So profit is really just extra money?!” 

But both were wildly incorrect views of profit. 

A more accurate view is wrapped up in this adage:

→ Revenue is vanity, profit is sanity, and cash is king. 

And it’s so true. Profit really is sanity, along with longevity, peace, fuel, or—as one friend recently said—kindness. (“Keeping your team around is kind!” he explained.) 

But what even is profit?!

Profit, in the way in which we are thinking/talking about it, is the bottom line in the following equation:

Revenue

- Cost of Goods Sold

= Gross Profit

- Operating Expenses

= Net Profit 

You can use the above formula for a time period (annual, quarterly, monthly, in a day, etc) or for a specific product (event, service offering, item, etc). 

A simplified and theoretical version of this is a company’s financial model; a look back at the reality of this is a company’s Profit & Loss (P&L). 

To make this even more confusing, there are other names that often get tossed around:  

• Revenue: Sales, Gain, Proceeds, Top Line 

• Cost of Goods Sold: COGS, Cost of Revenue 

• Gross Profit: Gross Income, Sales Profit, Gross Profit Margin  

• Operating Expenses: OpEx, Overhead, Operating Budget

• Net Profit: Net Income, Net Earnings, Bottom Line, Total Income, Net Profit Margin  

→ Businesses use profit to: 

1. fund a savings account (to prepare for situations ranging from cash flow dips to global pandemics), and 

2. invest in growth (to fuel everything from the first few months of an employee that’s getting up to speed to buying a business!). 

→ Profit is also used to pay owners a distribution. This is on-top of a reasonable salary (for both tax purposes and just health-of-the-business purposes). I’d argue that owner distributions also lead to sanity/longevity/health, as business owners who actually get paid reasonably or even well for their work will last longer and make better decisions than those who are barely getting by. 

→ Profit is NOT the only way you pay someone who is working in the business. If the founder is working in/on the business (not just being a passive owner), they need to be getting paid somewhere above that net profit line. 

If they are actually the ones producing the product/service (a photographer, for example), I’d argue that they should get paid in the COGS line for photographing an event, and if they are also doing run-the-business work (marketing, operations, sales), I’d argue they should get paid in the Operating Expenses line, too. 

And then they still might get a profit distribution. They should, in fact! 

These numbers might start off small, but this is the best profit habit/hygiene you can do from the beginning: build in payments in all the proper places. As revenue grows, so will your pay. And you can replace yourself in healthy ways, creating a company vs. just a job*. 

→ Business owners pay taxes on all unspent profit, even the money that gets put in savings. This is where pulling out a good portion of profit for taxes is helpful. This is also why businesses often do funny things at the end of the year, like paying for annual subscriptions or paying contractors sooner. 

→ A healthy profit margin depends on the industry, but 10-20% is a general Net Profit Margin target range. Too little, and you’re just one issue away from losing money. Too much, and something is likely broken in your model: Are you taking an owner's salary? Are you spending enough on sales to keep going? Is what you’re doing too easily replicable? 

*Sometimes you may not be creating a company where you are hiring other people and eventually replacing yourself; you really are just creating your dream job. This is totally okay. In fact, that’s amazing! You’re creating your dream job!! I still recommend developing a model like this and budgeting in a healthy profit margin, but your model will just be way less complicated. I highly recommend asking yourself this question early on (and reevaluating often): Am I building a company or a job? 

Let’s look at some (super, super simplified) examples in action:

Imagine a business that makes and sells purses. 

• Revenue: They sold 10,000 purses at $100 each, so their total revenue was $1,000,000. 

• Cost of Goods Sold: It cost $20 to pay for the leather, thread, zippers and grommets needed for each purse, and it cost $20 to pay a craftsman to create each purse. The total COGS is therefore $400,000. This is the money needed to create the actual product. 

• Gross Profit: $1,000,000 - $400,000 = $600,000 (This is a Gross Profit Margin of 60%). 

• Operating Expenses: This is the money needed to run the business, whether they sell 1 or 10,000 purses (in theory). They spent $450,000 total on Facebook ads, an office/warehouse space, design, web hosting, the owner’s salary, a fractional bookkeeper, etc etc etc. Everything not included in the cost of creating one purse is included here. 

• Net Profit: $600,000 - $450,000 = $150,000 (This is a Net Profit of 15%).  

The founder pays taxes on that $150k, puts $50k in savings, uses $30k to purchase some leather in bulk and score a huge discount (which gets written off as COGS for next year but it would never be possible to score that discount without this upfront cash), AND they take the remaining chunk out as an owner’s distribution that they use to pad their personal savings accounts and also maybe go to Cancun. 

Now imagine a business that hosts conferences (and is also making some poor but common decisions). 

• Revenue: They hosted 10 conferences that revenued $20,000 each, totaling $200,000. 

• Cost of Goods Sold: They spent $11,000 per conference on a venue rental, travel, speaker costs, lanyards, food, programs, and other items needed for each specific event. Multiplied by 10 events, this was $110,000 in COGS. 

• Gross Profit: $200,000 - $110,000 = $90,000 (45% Gross Profit Margin) 

• Operating Expenses: They spent $85,000 on SEO, ads, a Director of Operations, web hosting, etc etc etc. Oops, they forgot to budget a salary for their founder who is working 50 hours a week to make everything happen. 

• Net Profit: $90,000 - $85,000 = Misery and debt and how is the owner even paying their personal bills?! 

This $5,000 is what I’d call “Fake Profit” anyway, as the owner is essentially working for free. They could never replace themselves with someone else because who else would work for free?

Plus, if one of these events goes poorly, this whole business is in the negative and now they’re going into debt on events that have already happened. 

Is your blood pressure up just thinking about this?!

I should riddle this with disclaimers, as some of this is different for S Corps vs. LLCs or Sole Proprietors. And money is so personal! How much should you revenue, or profit, or pay your people?! A lot of that is up to you (and what your business can withstand).

→ If any of this is new to you or if you need some help, here are some recommendations: 

• Look through your bank account to see what you’ve spent in the past, what’s come in month-to-month, etc, and write out your hopeful model / projected P&L (Revenue - COGS = Gross Profit - OpEx = Net Profit) for the year. Actually facing the data is half the battle.

• Buy a copy of Profit First, a book/philosophy that really helped me frame an understanding of how to start carving out profit. The book is super intense (and super overkill imo), but I love the concept of budgeting in profit first—not just seeing what’s leftover. 

• Consider working with a fractional CFO / accounting team, like my friends Acuity or Stephen Newland. Make sure you understand your numbers, even if that means asking questions and feeling dumb.

• Consider working with a coach like Phil Sanders (Project Person #8). His biweekly-ish newsletter is also fantastic.

The bottom line (pun intended) is this: getting a grasp on your business finances and setting up healthy profit habits will make a drastic difference in your life, not just in your business.

Sanity, one might say.

Next week, I’ll share a fan-girl story about one of the coolest projects in Atlanta’s history. Stay tuned!