Business Finance Entrepreneurship

Simple Numbers, Straight Talk, Big Profits!: 4 Keys to Unlock Your Business's Potential (Summary)

by Greg Crabtree

You look at your company's P&L and see a healthy $100,000 profit. Time to celebrate, right? Not so fast. If you're only paying yourself a $50,000 salary for a job that would cost $150,000 to replace you in the open market, you don't have a profit. You have an underperforming asset that's paying you far less than you're worth.

Your Profit is a Lie Until You Pay Yourself a Market-Based Salary

Most entrepreneurs conflate their personal salary with company profit, which masks the true financial health of the business. To know your real profit, you must first pay yourself what it would cost to hire someone else to do your exact job.

A marketing agency owner pays herself $70,000 a year and sees an $80,000 'profit'. But hiring a CEO with her skills would cost $150,000. By this metric, her business isn't profitable at all; the '$80,000 profit' is just the remainder of her unpaid market-rate salary.

A Healthy Business Targets 10% Pre-Tax Profit

After all expenses, including the owner's market-based salary, a healthy, well-run business should consistently generate a pre-tax profit of at least 10%. Anything less indicates a flawed business model or operational inefficiency.

A construction company generates $2 million in revenue. After paying all costs, including the owner's fair market salary, it should have at least $200,000 in pre-tax profit left over. This 10% is the true return on the risk of owning the business.

Measure Productivity, Not Headcount

Instead of just looking at payroll costs, business owners should use the Labor Efficiency Ratio (Gross Profit divided by Direct Labor Costs) to measure how effectively their team generates profit from their work.

A software company has a Gross Profit of $1,000,000 and total direct labor costs of $400,000. Their Labor Efficiency Ratio is 2.5. If they want to hire a new engineer for $100,000, they must ensure this hire generates at least $250,000 in new Gross Profit just to maintain their current efficiency.

Use the Tax Code as a Wealth-Building Tool

Entrepreneurs should see taxes not as a burden but as a predictable cost that can be managed. Structuring the business correctly (like an S-Corp) and using retirement plans can dramatically reduce tax liability.

Instead of taking a large, unfavorably-taxed distribution, the owner of an S-Corp can max out a 401(k) plan through the business. This contribution is a tax-deductible business expense, lowering the company's taxable income while building the owner's personal wealth.

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