Profit planning for your small business
October 31, 2017
Even the smallest businesses need to be profitable to survive, and a profit plan is one of the most important tools to guide and manage profitability. Profit plans help to forecast the growth of your business, from both the revenue and the expense side. Here’s are some of the key points of profit planning from SBAM’s free Owner’s Guide to Profit Planning.
What’s in a Profit Plan?
A profit plan is a set of management decisions detailing what your company will do to be more financially successful. Thus, in its most basic form, profit planning is a process of deciding what you will do and how and when you will do it. More specifically, you want a profit plan that will manage cash flow, capitalize on strengths, mitigate weaknesses, and put your business on the growth track.
A written profit plan is essential to success. Although you may have your business growth and sustainability all figured out in your head, putting it on paper is key to making it happen on a day-to-day basis. If your profit planning decisions are not written down, they tend to be ignored or interpreted to fit the occasion, thus providing a less effective guide for analyzing subsequent financial results.
Think Proactive, Not Reactive
Your profit plan is your annual roadmap to get from where you are today, to where you want to go over course of the next year. It should provide proactive logical steps to achieve goals and meet targets. As such, profit plans are dynamic and change as your business changes. A profit plan for a very small business will likely be simple but will grow in complexity as the company expands.
Regardless of complexity, however, four primary uses should be top-of-mind as you create your company’s profit plan. It should:
- Help owners and managers achieve financial goals and objectives by laying them out explicitly;
- Improve and measure performance against predetermined goals;
- Establish a framework for making key decisions; and
- Educate and motivate key employees.
Financial Goals & Action Plans
There are many financial goals that could be included in a profit plan, and each should be accompanied by an action plan for achieving those goals: Typical goals include:
- Price markups or targets for products or services;
- Individual product profitability;
- Total workload hours expected during the coming year;
- Revenue and expense budgets;
- Days of revenue in receivables;
- Dollars available for purchasing new equipment; and
- Average age of accounts payable or overhead reduction.
Well-designed action plans always include the assignment of the person(s) responsible for performing the tasks associated with the goals and a completion date for each step.
Cash Flow Statements
A cash flow statement is a crucial component of an intelligent profit plan. The purpose of a cash flow statement is to evaluate the impact of operations and the financing structure on the cash position of your company. In other words, it’s a record of how much cash you have on hand to cover financial obligations and allows for planning ahead. For example, if cash is short, the statement gives a heads up so you can seek funds on the most favorable terms possible, or, when there is excess cash, there’s time to plan its most effective use.
Cash flow is enhanced by certain tried-and-true practices companies can incorporate into their business operations. These include:
- Creating a realistic budget;
- Keeping a close eye on how much cash you have and how much you need;
- Continually comparing your projections to reality;
- Watching for trends that increase business expenses and impact cash flow;
- Sending invoices regularly and contacting clients who are behind on payments;
- Checking potential customer’s credit references.
Beware of IRS Red Flags
No matter how small your business is, there are some business practices that can raise red flags to the Internal Revenue Service (IRS). While most things related to IRS audits and taxes should be handled by your CPA, here are a few things to avoid:
- Sloppy documentation of business expenses;
- Last minute transactions;
- Poorly documented transactions between related parties;
- Business expense deductions for relatives who are not employees; and
- Exceeding the limit on cash business gifts.
This is just a broad overview of successful profit planning for small businesses. Download our extensive Owner’s Guide to Profit Planning for an illustrative action plan template and more comprehensive details on profit planning that will empower you to design and execute an intelligent profit plan for your business.