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Building a Profitable Business: Input, Process, Output

By | 2018-07-22T00:58:06+00:00 July 22nd, 2018|Tags: |

 

A business is a linked sequence of activities that transforms inputs into sellable outputs. In order to build a valuable business, you need very defined inputs, processes and outputs. The more specific you are about what you do, the easier it is to scale and the more profitable you are. If you know exactly what your customers expect from you, then you know how to compute your targeted profitability. You do this by:

  • Determining the cost of acquiring the inputs
  • Determining the cost of processing the input to the desired output
  • Determine the cost of serving the output


The total cost of providing a service of product= cost of input + cost of conversion.

There is also the cost of providing customer service for after the sale, but this is not discussed in this article.

The difference between what your customer is willing to pay and what it cost you to provide the service or product, is called profit. Thinking about cost from a process prospective helps you streamline your process.

Input

Input consists of the resources that are put into a business, also called raw materials. Let us use a dry-cleaning business as an example: In the case of the dry-cleaning business, the process, will include using a chemical solvent to clean the clothes. This chemical solvent is material directly needed to get the clothes clean.

Processes

Processes are the resources needed to convert the input into the output desired by the customer. Processes require investments in labor and overhead. In the case of the dry-cleaning business, the process, will require an employee and investment in a facility to get the clothes clean. The cost of paying the employee is known as labor cost and the cost in running the facility is known as overhead cost.

Output

Once the clothes go through the process, the customer gets his or clothes clean. The clean clothes are the results of taking the input through the process.

The input, processes, output in a dry-cleaning business are quite easy. This makes it very easy for a dry-cleaning business to explain what it does, which makes it easier to grow.


Suggestions

It is hard to grow a business when there are no defined inputs and processes. Be sure to:

Define what you do:
Be very clear about what customers can come to expect from you. Be sure to address the 5 W’s: what, why, when, who and where. Without these specifics, the customer determines the direction your business goes and you are forever playing catch up. While you should get input from your customers, they should not run your business.

Define how you do what you do: Once you address what you do, the next step will be how to do it. To stay competitive, you should take a look at how your competitors currently execute, and then see how you can improve upon it to gain a competitive advantage.

Define what you will need from your customer: the last step is to define what you will need from the customer to get the given output.


Summary

Building a valuable business could be a long ride. But be persistent and seek help when stuck. The question ultimately come to this: What exactly do your customers want and how can you best deliver it to them. Being a jack of all trade is the best way to stunt your growth. By giving your customers what they most desire, actually makes you a more desirable provider.

On the other hand, being a jack of all trade, decreases your overall business value. You are good for everything but best for nothing.

Here is a free spreadsheet to help quickly compute profitability

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The art of becoming

By | 2018-05-14T03:43:47+00:00 May 14th, 2018|

Being does not come from doing but doing comes from being. For example, fish by their very nature swim. God made us all differently, with different likes, interests and tastes. Our inclination to take on to different tasks comes as a direct result of our uniqueness. Some nerds like me find numbers very intriguing while others will rather stick a pin in their eye.

When our actions counteract our individuality, we feel like a fish out of water and we find ourselves forcing ourselves to complete the tasks at hand. For the most part, this tasks never come to completion because we are acting in ways that are foreign to our nature.

Knowing yourself is one of the first steps to initiating change. When you have a solid understanding of your likes, dislikes, or habits, you are in a better position to instigate the changes you need to become the person you were created to be. Become the best version of yourself, rather than a cheap imitation of someone else.

Is who you are right now consistent with the real you? If you saw yourself ten years from now, would you like the person you have become. The becoming process should not compromised. The becoming process is a series of little actions that escalate to the person we are. God gives us our nature, we act according to our nature. In the end, what will matter is who we have become and not how much material wealth we amassed.

We do things as a result of who we are as people, we are all inclined to take on to different interests. Our uniqueness is what makes us beautiful so why try to hide it.

You are, so you do!

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Fix or Replace?

By | 2018-05-07T17:00:51+00:00 May 7th, 2018|

 

We have often been faced with the decision to buy a new product or fix the one we have. But how do you know which option will leave more cash in our pockets.

Throwing money at a bad product could get quite expensive. At the same time, just because a product is broken does not mean replacing it will be the better cost savings. To make a good decision you will need to know what costs are relevant to your decision and the opportunity cost of your decision.

When making a decision between multiple alternatives, the only factors you should consider are the factors that make a difference between the alternatives. Cost that will be the same regardless of what option you take are not relevant. For example, the cash you used to buy the vehicle or any recent upgrades are irrelevant to the decision. These are sunk cost and no matter what you do, you cannot change this cost. Taking sunk cost into consideration will cause you to make the more expensive future decision.

Find below a workbook to help you make the fix or replace decision.

Free Resources

 


Needed Information for your analysis

  • The life time of the new product or asset: How long do you expect to keep the new asset
  • The average cost of maintaining the old asset: This will include annual maintenance like oil changes, replacing parts, etc.
  • The cost of maintaining the new asset: Newer assets tend to have lesser cost of maintenance. There could also be increased energy savings, improved gas mileage, etc.
    • Any savings should be added and any expenses should be subtracted.
    • For example, if you will save $500 a month on electric bills but spend $50 on supplies, your net monthly maintenance cost is a positive $450.
    • If no savings are expected, then your maintenance cost should be a negative -$50.
    • This number is hard to nail down but do your due diligence to get as close to a good number as possible. In this day and age, it is easy to find information from other consumers who use the same product. So, do your due diligence rather than assuming your new purchase will save you money. If you end up spending the same as you did in maintaining your old product, then keeping the old will probably make more sense.
    • The difference between your cost of maintaining the new and the old is your annual cost savings.
  • Enter the cost to repair the product – this is the cost to fix it now to get it to a working condition. Future estimated cost of maintaining the product should be added with the annual maintenance cost.
  • Enter any cash you will receive from selling the asset
  • Enter the purchase price of the new asset
  • Enter the opportunity cost of the cash you use to purchase the new asset. For example, you could have an investment deal that will earn you 10% on the same cash. This should be considered as it is relevant to the decision.

After you enter your data, you get the following analysis:

The final decision to fix or replace is an individual one. There could be other factors that are personal to the decision maker which will make one choose otherwise.

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Busy but unproductive!

By | 2018-04-22T16:42:41+00:00 April 22nd, 2018|Tags: , |

As entrepreneurs we sometimes confuse busyness with productivity. Busy means having a lot to do while productive means getting a lot done. We never have a problem with being busy, no matter how unproductive we are. Most materials about productivity have to with having a list, setting goals, etc. While all those things are important, being productive boils down to your willingness to do the boring stuff. Busyness is easy because having a lot to do distracts us from what really needs to get done. For example, the small business owner wants more cash but does not want to deal with the boring stuff that saves cash. Most businesses that are cash machines have learned to get on top of the boring stuff. In business boring equal cash and exciting equals broke. When someone comes to you with an exciting idea that’s just another way of saying, “I have not really figured out how to make money”.

Whoever works his land will have plenty of bread, but he who follows worthless pursuits lacks sense. (Prov. 12:11)

Passion has to be balanced with consistency and consistency is most often boring. Not being consistent is like driving a car with a back seat driver. Everyone else in your life tells you where to go. You have to learn to commit to the vision: The reason you started the business in the first place.

The only real risk in business is losing the vision. If you are focused with direction, risk is greatly minimized.

Just before you think, business is one boring exercise, there are always going to be new challenged to reignite passion. But you will never experience these new challenges if your never conquer the basics.

Do you see a man skillful in his work? He will stand before kings; he will not stand before obscure men. (Prov. 22:29)

I wish you a very productive day!

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What does it mean to truly live?

By | 2018-04-08T19:05:25+00:00 April 8th, 2018|Tags: |

W. H. Davies

Leisure

WHAT is this life if, full of care,
We have no time to stand and stare? —

No time to stand beneath the boughs,
And stare as long as sheep and cows:

No time to see, when woods we pass,
Where squirrels hide their nuts in grass:

No time to see, in broad daylight,
Streams full of stars, like skies at night:

No time to turn at Beauty’s glance,
And watch her feet, how they can dance:

No time to wait till her mouth can
Enrich that smile her eyes began?

A poor life this if, full of care,
We have no time to stand and stare.

Machines have changed the world. They have made life so much easier. Tasks that once took five people to complete, now takes one person? However, the invention of machines brought about a pendulum shift in the way we think about time. With the invention of machines, the routine of our daily work lives was forever transformed.

For years people have scheduled their time around machines. The time you slept, ate, or woke was scheduled around the machine. As long as the machine was running, industries expected employees to stay in tune with the machine for production. The problem is machines never sleep but humans too. Machines brought about an increase in the pace in our daily lives.

The funny thing is even though technology has evolved, we are still bound by these very thoughts. The time we wake, eat, sleep is still scheduled around production. Hence the inherent meaning of the saying, time is money. But should time really be just about making money? What is the point of life, if all we do is make money? Studies have shown that once we meet a certain threshold, making more money does not make us any happier. So, what does it mean to truly live?

What does it mean to truly live?

What motivates you? Is it bigger profits, higher revenues, more employees, etc.? If your business is only focused on bigger and higher then you will certainly hit the wall emotionally someday. This will happen even though you have a huge bank account. So, if bigger profits and higher revenue does not fulfill us then we spend so much time focused on these measures? You will think the more money you have, the more time you should have to enjoy life. But I have found this is not the case. People who are successful are driven to become even more successful. Thereby spending even more time working.

However, the real problem is not the hours we put in at work, but how much we give up to put in those work hours. In other words, what do we trade for money? We tend to see life in sequences. I cannot do B unless I do A. This is the foundation of our problems and this is why we have the work life balance debate. Sequencing forces us to put away the important for the urgent. One big example that comes to mind, is sequencing time with our loved ones after we have put in 12 hours at work. The problem is your loved ones get the least energetic part of you. Another example is waiting to start a family till your career is “successful”. The problem with sequencing is “life is short” and by the time A happens, B is too late. Your 5-year-old daughter will be 24 by the time you finally have the time or your ability to have children has greatly declined by the time your career takes off. Life consists of a series of event, a lot of which we cannot control. So, the idea we can control life by having perfectly sequenced life is absurd. So why do we do it? I think the reason is because everyone else does.

So back to my original question, what does it mean to truly live. To truly live, means to love. First, we love God and then we love man. This is the very essence of life. When we love, we feel deeply, we seek to push boundaries and we are not limited by the ordinary. We strive because we love. When we love, sequencing holds less significance because we are moved by something bigger than time or profits.

How does this apply to business?

You can choose to see your business as a set of systems whose primary goal is to make profits? Or, you could choose to see your business as a community of people working together to achieve a common meaningful goal. Meaningful in that families and society are better because your business exists. In other words, the lives of the people who work for you are better because of their association with you. And in turn they produce work that matters to society.

A very well sequenced business will aim for bigger profits by creating well oiled system that churns profits. However, this type of business lacks a soul. Bigger profits and higher revenues as a primary motivation is not sustainable. The business owner is sure to hit an emotional wall which begins the downward spiral of the business.

A business that operates because of love, cares about people as well as the vision. It attracts people who share the vision to change the world. People who work for this business learn to integrate life with work. And the love they feel at work is transferred to the home. In the short run, a business like this might look like a fool’s game but in the long run it reaps the most rewards.

In summary, tick tock says the clock. No one knows when they will hear the last tock. Why keep deferring the important for the urgent? Choose to live, laugh and most important of all is to love …

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Real Differences between Profit and Cash

By | 2018-03-18T22:28:56+00:00 March 18th, 2018|

Anyone who has run a business knows there is a big difference between profit and cash. Profit is an accounting term while cash is what you can actually spend. You need cash to run your business, however without profits you cannot get excess cash. While the two terms are related, they do not always happen at the same time. After all, it is not unheard of to see broke profitable businesses.

So why do broke profitable businesses exist?

Below are four reasons why cashless, profitable businesses exist:

1) Too much accounts receivable: Profit is your revenue minus your expenses. Revenue is money you get from operating your business. Revenue often comes in the form of cash but not all cash that flows in the business is revenue. Sometimes your customer engages in a transaction with you but promises to pay later. In that case, you have revenue with no cash.

2) Selling inventory too slow: If your inventory is moving slow, you will not be able to generate cash fast enough from your inventory purchases. This inventory eats up cash but does not show as an expense till you sell the inventory. So, in that case, your business could be showing it is profitable but you have too much cash tied up in inventory.

3) Having too many loans: When you have too many loans, cash that should be used to run the business will go to the lenders. While your business may be looking profitable, there will be less cash to support future growth.

4) Taking too much money out of the business for personal use: It is okay to reward yourself for the risks you take in your business. But doing this in a non-systematic way could be bad for your business. This is because you are not purposely about how much you take out. You could end up taking out too much leaving your business starved for cash. Your business might be profitable but yet has very little cash to support it.

Take a look at this video, to see how profitability and liquidity are connected.

 

To grow and manage a business, you need both profit and cash at the same time. Maintaining the balance between cash and profits is essential for long term survival.

If you are interested in template in the video or other templates that can help you understand your business better visit bizexceltemplates.com


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Working Capital: Profitability is not Everything.

By | 2017-11-10T21:00:43+00:00 November 10th, 2017|Tags: |

Be careful of accounting definitions

  • The accounting definition of working capital = current assets – current liabilities.
  • On the surface this has very little meaning.
  • Current assets & liabilities could contain items that is not related to operations.
  • Know your numbers so you know your business

Working capital: Internal Vs External

  • Working capital is used to evaluate the efficiency of cash management in meeting the demands of the direct cost of goods/ services.
  • The more certain we are, the less working capital we need.
  • The more uncertain the more you need on hand
  • If you half operating cycle, you half working capital need

Summary

  • The whole point of WC management is to determine whether the company has enough cash to pay off short term operating liabilities as they come due.
  • Bad working capital management further reduces profitability due to limited cash for further investment
  • The goal is optimization and not maximization

Download the excel template in the video here: Profitability Vs Liquidity.xlsx

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Accounts Receivable Turnover

By | 2017-11-03T18:05:42+00:00 November 2nd, 2017|

Do you know what your AR is costing you?

 

Why accounts receivable?

  • Increase sales.

Downside of Accounts Receivable

  • Bad debt

  • Opportunity cost of cash

  • Additional staff required to maintain accounts

  • Interest cost if business has to take loan to meet working capital needs

  • Background checks/ collection services

  • Office supplies like paper and ink sent to customers who owe

Credit card and accounts receivable

When you offer your customers the choice to pay accounts receivable with credit cards, you increase your cost of credit. One of the main functions of accepting credit cards is the ability to collect payments faster.

AR WITH CREDIT CARDS DEFEATS THIS PURPOSE.

How Did We Get Here?

  • MOST TIMES WE SIMPLY DO WHAT EVERYONE ELSE IS DOING WITHOUT THINKING ABOUT THE BEST APPLICABLE SOLUTION FOR OUR BUSINESS.

Available Options

  • If you accept credit cards FOR AR, think about adjusting your policies where customers pay before they get the final good or deliverable.

    • In exchange for credit card fees, you should reduce your chances of accumulating accounts receivable.

  • BE INNOVATIVE – YOU DON’T HAVE TO DO THINGS LIKE EVERYONE ELSE

ACCOUNTS RECEIVABLE TURNOVER

The turnover ratio computes how many times accounts receivable is turned to cash in a year. The higher the ratio, the shorter the collection period.

Accounts Receivable turnover example

  • Accounts Receivable Turnover = Sales/ Accounts Receivable

    • Sales = $1,000,000

    • Accounts receivable = $250,000

    • AR turnover = $1,000,000/ $250,000 = 4 times

  • Number of days to collect = 365/ accounts receivable turnover ratio

    • 365/4 = 91.25 days

  • This means it takes an average of 91.25 days to collect.

    Next let us compute the cost.

COST OF CREDIT SALES

  • Every month you keep your accounts receivable there is a cost

Summary

In exchange for credit card fees, you reduce your chances of accumulating accounts receivable. If you are not in the credit business or your credit sales does not increase total revenue in any way, then you are spending way too much on accounts receivable.

Get more detailed analysis:

http://www.retirefrommybusiness.com/product/module-2/

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What is Return on Assets?

By | 2017-10-29T23:29:52+00:00 October 29th, 2017|

To truly understand return on assets, you must first be able to differentiate between operating and non-operating assets.

Operating Assets

Operating assets are economic resources owned by the owners of the business. Operating assets are bought to generate future revenue and can usually be converted to cash in the future. This means they can potentially be resold after use. Operating assets often include:

  1. Cash – at a minimum your must have cash to cover your break-even expenses
  2. Equipment/ machinery/ vehicle for smooth running of your operations or improve productivity
  3. Buildings – you can choose to own or rent your office space. If you choose to own your building that will also be classified as an asset

Non-Operating Assets

Non-operating assets are assets that are not required to continue operations. For example, a business might own some real estate that is not used in operations. The business might have invested in it for operations but later chose to move the business. Alternatively, a business might choose to invest in real estate to generate non-operating income.

Another example will be a vehicle initially purchased for business purposes but has since been converted into a vehicle for personal travel.

Computing return on assets

The efficiency of the assets you accumulate is measured by the return on your asset. Return on asset is measured by net income divided by total operating assets. So, if you made 10,000 last year and your total operating assets were 5,000, your return on operating assets will be 10,000/5,000 = 200%. This means that you were able to double the amount you started out with. Your assets are being put into good use.

Before computing your return on assets, it is important to make an adjustment for non-operating assets. Including this in your calculation can distort your results.

Assessing effective use of your assets

Not only is it important to watch profits also it is important to manage your assets. Keeping assets idle, lowers the return you can get on your investment. You should know how much assets you need to run your business and maintain growth. Excessive assets should be re-directed to other investments so non-operating income can be generated for the business.

Assets in your business should be producing more than you can make from saving your income in a CD or savings account. If you can invest the same amount of resources somewhere else and get a higher return, then running your business is not your most profitable choice.

Let us assume you had $10,000 and you had a choice to start your own business or invest in an alternate opportunity. If you estimated you can double your investment in running a business then investing in a business is more desirable. On the other hand, if you can earn more somewhere else then running a business will not be the smart way to go.

 

Business

Alternate Investment

Initial investment $ 10,000 $ 10,000
Time

1 yr.

I yr.

Income $ 20,000 $ 5,000
Rate of return

200%

50%

You want to establish a minimum return for each asset you invest in. If not, you could easily find profits decrease as income increases. This is because expenses like depreciation and interest expense normally associated with assets will increase while revenue stays the same or decline. Managing the return on your assets is just as important as managing profits. Operating assets must possess the ability to increase revenue or decrease expenses: The owner should either spend less overtime by owning the asset or the asset should increase productivity allowing the business to take on more customers.


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Lifestyle CPA

Financial Keepers, LLC
Innovate Springfield
15 South Old State Capitol Plaza,
2nd Floor Springfield, IL 62701
Telephone: 417-812-5945

Phone

417-812-5945