Last week I had the opportunity to participate in the EO Accelerator quarterly education day as I’m the Champion for the Accelerator program on the EO Atlanta Board. Each quarter we have an all day education event taught by a certified facilitator that flies in for the program. The program, for entrepreneurs with revenues under $1 million, is three years long, with rolling admittance and unique content on the topics of People, Strategy, Money, and Sales. This was Money day.
Money day was taught by Greg Crabtree, one of the most entrepreneur-minded CPAs I’ve ever met. Greg runs a firm in Huntsville, AL that charges a flat monthly fee, typically $400 – $1,000, to clients in exchange for fixed quarterly accounting services and unlimited advice. Greg provided several frameworks for thinking about financial concepts in business, that are especially helpful for entrepreneurs.
The idea behind the salary cap comes from professional sports, like the NFL. The way to calculate it for your business is to take all your non-labor costs on a trailing 12 month basis and subtract that value from your trailing 12 month revenues. Why is this good to measure? It helps you focus on the maximum amount the business will bear for labor costs before the company won’t be profitable. Too often, entrepreneurs add new staff before the business warrants it and this provides a value to monitor. Note that looking at your trailing 12 months expenses and revenue is typically better than looking at annual values on a calendar year, for the purposes of making decisions like hiring.
Core Working Capital
One question I’ve asked many times, and been asked many times, is “How do I determine how much I should have in the bank before expanding/hiring?” Core working capital (CWC) is the answer to that question. CWC, according to Greg’s recommendation, is two months of monthly operating costs in cash in the bank after the following:
- Debt payments (he recommends no debt or line of credit)
- Current liabilities
Of course, the amount of desired working capital will vary from business to business, but this simple rule of two months of cash in the bank is a good starting point.
Profit Margin Goals
The third take away from Greg came in the form of profit margin goals. Greg’s advice was that businesses should strive for a 10% profit margin after fair market wages are incorporated for all principals in the business. Here are the three common profit ranges for a growing business:
- 5% range – the danger zone
- 10% range – the target for most businesses
- 15% range – doing extremely well, especially if the business has scale
I hope these three financial ideas for growing businesses are as beneficial to you as they are to me. Thanks again to Greg for doing a great job.
One thought on “Three Financial Tips for Growing Businesses”
One thing I would add from Greg’s learnings. This all assumes you are accounting for the owner’s salary. So an entrepreneur paying herself $25k might show 50% profit and think she is a rockstar. But unless she is accounting for the fair market value of her labor ( perhaps 100k), the numbers will be skewed. Badly. So no matter how the entreprenuer chooses to actually take income, it’s important to account fr it as if it were a payroll expense to get a true measure of the businesses performace.