I hate to admit it, but when I first started in business, I didn’t track my numbers at all. It felt tedious, time-consuming, and unnecessary. I thought if I simply devoted all my time to my craft (what I considered “running my business”), the numbers would take care of themselves.
They didn’t.
After years of spinning my wheels though, I did finally realize there are some numbers that I absolutely must know. Knowing them has helped me make more money, given me greater freedom, and allowed me to grow my business drastically faster and stronger than before.
If it doesn’t seem like your business is making as much money as it should be, I invite you to learn from my mistakes and accelerate your business by properly tracking the numbers you must know.
Warning: Some of this stuff can seem insultingly simple, but failure to track in small business is more rampant than most people realize and definitely more devastating. Tracking these numbers is not complicated, but it is vital. Don’t let the simplicity fool you.
Net Profit
No matter what business you are in or how small your business is, a bedrock metric that you must know is your net profit. Calculating net profit is really simple. Just subtract your total expenses from your total revenue.
Revenue is all the money your business earns from selling its products or services. This does not include money contributed by you or lent from outside lenders.
If you are in the lawn mowing business and you mow 10 lawns, earning $50 per lawn, then your revenue is $500. Easy enough.
Your expenses are every dollar that you spend to produce that revenue. This includes things like supplies, equipment, fuel, cost of inventory, and money paid to laborers.
So, in our lawn mowing example, if to mow those 10 lawns, you purchased a lawn mower for $100, gasoline for $50, and paid me $100 to help (which I was happy to do), your expenses would total $250.
Now we have enough info to calculate our net profit.
An accountant would call the above equation an income statement, simple though it may be. More down-to-earth folks like me and you call it a Profit and Loss Statement (or P & L if you are really hip). But the entire purpose of an income statement/P & L is merely to determine that magic number: net profit.
Net profit tells us how much money our business is really producing. This is important because many business owners like to brag about the size of their business in terms of revenue. But revenue is meaningless.
A business that earns $1,000,000 in revenue but requires $1,000,000 in expenses is worth absolutely nothing. One that earns $1,000,000 in revenue but requires $1,100,000 in expenses is worth even less. And yes, lots of those businesses exist.
Adequately calculating net profit exposes most businesses to be not as sweet as they first appear. That’s why most small business owners don’t do it.
Back to the lawn-mowing. It sounds cool to say you made $500. It sounds half as cool to admit you only made $250. Facing the facts can be painful. But we are in business to earn a profit, so we want to know when we are and when we aren’t.
Knowing your net profit is really only helpful if you analyze it over a certain period of time. Knowing you made $1000 of net profit is nice, but we need to know if that took a week, a month, or a year. In a service business, a per hour calculation is even more telling.
At the least, every business owner needs to know what their net profit is on an annual basis. But in most ventures, you’ll also want to know your net profit each month. Comparing the months over the course of a year will illustrate any seasonality to your business (which almost all businesses have) and will provide many more insights (i.e., when do we need more help, what time of year do we need more marketing, when do we need to order more product, etc.)
The first action step for any business owner that wants to get a better handle on their business is to calculate their net profit. Warning: You may discover that you aren’t really making as much money as you thought. If so, don’t be discouraged. Acknowledging that fact is the first step to correcting any issues that are holding you back.
This is important. How do I know? The first time I did this I was shocked at how little money my business was making for the time I was putting in. I thought I was giving my clients a great deal. It turns out I was almost working for free. A few simple tweaks and I was still able to give my clients great value, and also earn a fair profit for myself. But I never would have known if I hadn’t taken the time to track my net profit. On second thought, I guess I would have eventually figured it out . . . when I had to close my business.
How do I actually do it?
Calculating net profit for most small businesses is really easy. You don’t need any complicated accounting software. Just take your checking account statement and total up all your revenue and expenses. From there, the net profit calculation is simple, as we saw above.
This brings up an important point. You need a checking account for your business that is separate from your household checking account or any other ventures. Recall from above that revenue only includes money the business produces. Including outside income just muddies the waters. Likewise, only expenses which are associated with those revenues are helpful. If you are paying for household groceries out of your business account and calling them expenses, you are destroying the accuracy of your numbers and possibly committing tax fraud. Don’t do that.
The good news is, once you get this tracking started, it’s really easy to continue. Just follow these simple steps:
#1 – Run all the money and only the money your business produces through one checking account, completely separate from your household checking.
#2 – At the end of each month, total up the business revenues and business expenses to calculate your net profit.
#3 – Compare that net profit to the time or effort it took to earn. Determining net profit per hour, or per product, or per project is when these numbers really start to become useful.
#4 – Don’t be like I was in the beginning: flying blind and hoping for the best. Running your business by your feelings will make you broke. Running it by the facts will put you in control and put money in your pocket.
You should always know your most up-to-date net profit numbers off the top of your head. If I were to see you on the street next month and ask how much net profit you made this month, you should be able to tell me. That way I can decide if I also want to get into your line of work. I’m kidding, of course. But it will help you confirm if you should stay in that line of work. Make it a habit to always track and always know.
Tracking your numbers is a discipline. It’s not always fun, but it pays off in spades. If you aren’t tracking, you’re an amateur. The moment you start tracking, you’re a pro.
Your first order of business is to calculate your net profit and track it over time. That move alone will move you ahead of most small business owners and it will start making you money right away.
