MOST FOLKS DISLIKE accounting, I know I did. But in college I did very well in it, one of the few classes that I can say that about. Like making jewelry, there’s something appealingly methodical about accounting.
But studying accounting and using it are two different things. Even after my mentor — an accountant/watchmaker — showed me in the late 1980s how to price repairs, I still didn’t do much in accounting except write checks.
But once I understood what I was looking for — things like GMROI, and turn — I bathed in the subject. Your financials are a true picture into how you are doing. The P&L is like a pretty girl giving you a smile. You feel good for a moment, but before long you’re back to your old ways — owing money.
The first step to financial health is setting up the (dreaded) budget. The few folks who I have helped with a budget become better at running their business; they make more money and have greater amounts of cash to pay all of their bills.
(Some folks can’t understand how it’s possible, if their accountant showed them that they made a profit — and a nice one to boot — that they can’t pay their vendors. The reason is simple. “Accounts Payables” don’t show up on the P&L. It’s on the other sheet you ignore — “The Balance Sheet”. If you make a profit of $50,000, that’s not enough to pay off your $145,000 in accounts payables. Net profit pays the things you owe on the balance sheet.)
Take my word for it. Setting up a budget and running the report every month will “set you free”. Maybe even set you on fire.You’ll compare what you think you should be doing to what you really did.
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A budget is not a system designed to make you curb your spending. It’s 100% about how to get you to where you want to go. So, where do you want to go? I boldly say you want to:
A.) Pay off your payables
B.) Pay expenses as needed
C.) Make great money
D.) ????
If the answer to D is “more time,” that comes from having more staff to take over your job and that takes a little more money.
Setting a budget requires you to begin someplace on the P&L, and it’s probably best to start with expenses. QuickBooks has a great and easy budget maker. Go to the top menu “Company” and “Create Budget”. It can pull up last year’s numbers for you (and you better have these!) and will plug them in for this year. Then you should analyze the numbers to see if expenses should change. An example:
A.) We want to increase advertising to 8% of total sales.
B.) Payroll should be “x%” of projected sales, lets plug that in.
C.) We will limit computer expenses to “x”.
QuickBooks can also, very easily, by the click of a button, increase all expenses by a designated percentage — or increase just one item by a set dollar amount. Then, you can individually change each month. An example: You might set your advertising budget at 8% of your sales. But you wouldn’t want the same number each month. So you’d enter higher numbers in December, lower ones in June. In QuickBooks, it’s easy to set up the expenses.
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Now comes the fun part. (Actually it’s two fun parts.)
You now calculate, based on your overall gross profit margins, how much business needs to be done to have enough gross profit left over to pay the expenses. (For those of you recently joining us from the moon!, gross profit is sales minus the cost of those sales.)
Let’s say your added expenses are $100,000 and you currently have a 44% gross profit percentage. Right off the bat, we know we need $100,000 in gross profit. So divide the $100,000 by 44% and you’ll get $227,272.
That means that you’ll need to make $227,272 in sales to have the money to pay that extra $100,000 in expenses. The difference between $227,272 and the $100,000? It’s your “cost of goods” = $127,272.
But don’t enter that yet. With this formula, we have not made any net profit. We’re breaking even. And, of course, that’s not why we’re in business. So let’s strive for 8% net. Expenses can go up as business goes up (payroll, advertising, boxes, etc), so you’ll probably have to keep punching that calculator. But, in general, in this example we must remember that expenses and net profit come from sales minus cost of goods.
So for a store needing to do $227,272 in sales, let’s push up the projection to $280,000 in sales.
If you do $280,000 in sales, your gross profit at 44% will be $123,200. If we subtract the $100,000 in expenses, that leaves $23,200 in net profit. If you divide the $23,200 by your sales of $280,000 you’ll get a net profit of 8.2%. Perfect!
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Part of the $23,200 will go to pay accounts payables and long term debt — and, not to mention, put a little money in your pocket. Some of your accounts payables will be paid by your cost of goods as you ordered in a ring in January, it’s delivered in February, and you pay the vendor from the cost of goods from that month’s sales. So you’ll have even more money actually left over. But in addition, you’ll be able to fund your own debt. You can stop borrowing so much and owing vendors so much as the business will pay it’s own way. What a novel idea!
Did you notice though that to get an 8% net profit of $23,200, you had to increase sales by over FIFTY GRAND? That’s around 23%. Hey, those are the facts of life! (But it does kind of make you think differently about giving away free repairs, doesn’t it? You can easily make $23,000 more “free money” in repairs by charging correctly, especially since repairs have a 90% closing ratio.)
This story is from the August 2004 edition of INSTORE.
