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🎞 New Mini Documentary: Truth About Money - Part II
⏰ This is how long it took to write: 10 hours 39 minutes
A quick question to start with:
What do you judge a business by? 🤔
By the amount of Revenue or Profit?
If you said the amount of Turnover - like most people - then let me ask you another question.
How many entrepreneurs have you ever seen who have a turnover of over 100 million, yet live in pretty modest circumstances? 🏠
I'll help, there are many!
Well, there are 2 things that can happen in such cases:
One is that he is a good thinker and invests his money - unfortunately it is less.
The other - which unfortunately is the more common - is that your company is not profitable enough.
Because Revenue ≠ Profit! ❌
💡 Side note: So is Education ≠ School, but that's a benign joke. YIKKYK!
That's the biggest mistake start-up entrepreneurs make.
But in this post, I'll teach you everything I've learned about Business Math over the past year... 👨🎓
Before we dive in, let's see...
🚀 How's the challenge?
🤝 I conducted user interviews
Which consisted of going through one by one, why did anyone subscribe, or maybe cancel?
How can we improve this? 🤔
These are terribly important, yet I've been neglecting them a bit lately, which is why I'm feeling a bit self-conscious...
After all, this is when we get the real opinion of the "market", which can be used to guide the BookBase. 🧭
If we don't listen to the users, we are literally guessing.
And guessing never ends well in the long run!
If you want to come on one of these 10-minute Zoom calls just drop me a message on Instagram and we'll set it up! ✏️
🖥️ New Webapp in Beta next week
Szabi worked hard this 2 month so we finally have something to show you!
Specifically, it has become the same as the App. 🦄
After all, that was the goal!
After all, one of our big promises is "evolve anywhere, anytime". 🌍
This includes the fact that if your phone runs out of battery, you can continue on your computer at any time!
🤯 Docu video is a huge hit on YouTube (HUN)
If you haven't seen it yet, it's definitely worth the 14 minutes! 😉
I promise it will make you think!
Let's get started! 🏁
💭 Why do so many people make this mistake?
Because Revenue is always a bigger number and people like to brag.
So, they always bring up revenue in a conversation. 💰
The problem with this is that when you're in a serious company, the first question you're asked afterwards is...
"That's nice, but what was your profit?" 🤔
And then you're caught my friend...
Let's start by defining the meaning of profit. 🔍
The meaning of profit from my point of view is: You subtract from your total income all your expenses before paying tax.
💡 Side note: I have a friend who has 5x more revenue than us, yet we take home the same amount. Why? Because ours is a service and his is a product. We operate at a much higher profit margin.
Your company should strive to make as much profit as possible.
There are 2 ways to increase profit:
📈 You can increase your sales and thus increase your profit.
📉 You can increase your sales by increasing your turnover.
The book "Business Math", also called by some the Entrepreneur's Bible, mentions a specific number here. 📖
It says your business should aim for 15% profit.
But a minimum of 10%, below that you are actually working for nothing.
💡 Side note: Calculate this as if you were paying yourself a decent, marketable salary. Yes, I know you don't have to hide it, you're probably not there yet, but you should still calculate it into your costs. Because if you calculate with a small salary, you will get a false result.
The question comes immediately...
But what is my marketable salary? 💰
Well, the easiest way to calculate it is to assume you get hit by a bus today and your family wants to move your business on. 🚌
How much would they have to pay a person with good skills to take your job?
Now that will be your marketable salary.
After all, the work you've been doing would now be given to an "unknown"...
Which should be done as well or better. 📈
And you need to know the value of your work, so a marketable salary is essential.
If you didn't give yourself a marketable salary and something went wrong, your company probably wouldn't be in a position to hire someone to replace you. 😕
Ergo you would go bankrupt...
But before we look at how you can fix your company, a little insight...
Premium membership?
I am thinking of moving the newsletter to another platform soon. That would open up a lot more opportunities for us!
I would also start a Premium Membership, where I would come every 2 weeks with 1-1 longer unfolded Blog article, with a monthly fee of about 1.000-1.500 HUF.
The money that would come in would be 1:1 reinvested in the Blog, more research, better articles, a jump in quality.
What do you think?
🧐 How can you put your company in order?
There are 5 concepts you need to understand, once you have them, the golden door to corporate finance opens.
💡 Side note: This was meant to be a cheesy analogy for redemption.
Get ready because this is going to be dry. 🏜️
But I promise it's more usable than an economics degree!
Here's where Mike Mihalowicz's brilliant book will come in handy in his masterpiece "First Time to Profit".
Which reveals a completely different accounting system. 📖
How have we calculated our Profit so far?
If you look at the beginning of this post, that's what I did. 📝
Income ➖ Cost 🟰 Profit
This is the established equation. 🧮
However, Mike has come up with a whole new equation that works much better in real life.
1. Profit first 💎
This is what the new equation looks like:
Income ➖ Profit 🟰 Cost
So, we predetermine how much Profit we want and only spend the rest.
It may not work right away, but it doesn't have to. 🤠
It's a process!
I'll show you why it works in the long run. 🫵
When people want to lose weight, the best thing they can do is buy smaller plates to take home.
Because it's an ingrained habit in your brain to fill your plate, it's hard to change. 🧠
However, it is much easier to play around.
Because if you fill up your small plate, you've still eaten far fewer calories.
Ergo, you will lose weight!
That's exactly what we're using here.
We predetermine how much we can spend and try not to exceed it. 🚷
💡 Side note: This is also exploited by the YNAB App, which I've been using every day for 4 years now. It has put my finances in order.
Mike divides his income into 4 parts, which is more or less the same as the one described in Biznisz Maths.
💡 Side note: No coincidence since the 2 writers, know each other and are good friends!
This is the 4 parts:
- Profit 📈
- Owner's salary 💵
- Taxes 🏦
- Operating expenses ⚙️
Tax does not include VAT, it is subtracted from the equation at the beginning, as it is the State's money.
2. Actual revenue 💳
So, your total revenue - product costs - VAT = real revenue
And divide the real revenue.
According to him, for companies with a turnover below 100 million Ft, the perfect distribution would look like this:
- 📈 Profit - 15%
- 💵 Owner's salary - 30% (as the owner still does most of the work)
- 🏦 Tax - 15%
- ⚙️ Operating costs - 40%
Remember, this is the perfect state, even we haven't reached it yet.
But we are on the right track. 🛣️
And that's where the genius of it all comes in.
Because as soon as the money arrives in your account and you've deducted the cost of goods and VAT - so you've got your real income - then we start distributing it. ♻️
Mike divides the money into separate sub-accounts based on the %.
Unfortunately, it's quite complicated in Hungary. 🇭🇺
I have not yet found a bank where a company can have 4 sub-accounts.
💡 Side note: Relay abroad is based on exactly this and I am strongly considering opening an account with them. For now, I'm managing it within YNAB. So, my money is in 1 account, but virtually split into pockets, not the best solution, but it will do temporarily.
That way, as soon as you get the money you have already sub-divided it, which results in you seeing specifically how much you can spend in "Operating Expenses". ⚙️
If you only spend what's on it, you'll have as much Profit as you set for yourself!
You know it's like the smaller plate. 🍽️
So, by fooling your brain you will spend less, which will result in you gradually making more profit.
💡 Side note: It can help a lot here if you go through your last 3 months of expenses and keep only the most important ones, which are essential for the running of the business. When I did it, I was able to get rid of 700,000 expenses a year that were unnecessary (Beacons, Buffer, etc.)
But you may rightly ask, if I keep cutting costs, how will I grow? 🤔
And I have to say that's absolutely true!
This is where the third concept comes in.
3. Labor productivity ⚒️
Don't be scared, it's just difficult to say but infinitely simple to understand.
The meaning of labor productivity is: You divide your actual income by the total expenditure on labor.
This includes salaries, your own salary, subcontractors, freelancers, etc. So, every penny you spend on work. 👨🔧
The result will be a small number, positive in a good case and above 1.
If your labor productivity is 1.5, that means that every penny you spent on labor generated 1.5 pennies in real income for you. 😳
💡 Side note: I couldn't find a perfect ratio here, because it varies from company to company and sector to sector. Some are quite labor intensive, some less so. For us, this number has fluctuated between 1.8-2.9 so far. Evidently, as you hire more people, it goes down.
You, see?
Okay, let's move on. 🚶
New concepts are coming slowly, but you know, in a subtle way...
The following might be familiar to you from the world of sports. 🏈
It's none other than...
4. The Payment Cap 🧢
You know, it's set how much teams can spend on salaries each year.
Well, we'll do the same for you. 🫵
Simple math.
Suppose you want a 15% Profit and you have 100 million in revenue.
Then the equation would look like this incomplete:
💰Revenue: 100.000.000
🤝 Wages: ?
🛒 Non-wage expenses:?
💸 Total expenses (wages + non-wages):?
📈 Profit (15%): 15.000.000
To have such a profit, you can have a maximum of 85.000.000 expenses.
Because 100.000.000 - 15.000.000 = 85.000.000 😉
So, the equation changes:
💰 Revenue: 100.000.000
🤝 Wages:?
🛒 Non-wage expenditure:?
💸 Total expenditure: 85.000.000
📈 Profit (15%): 15.000.000
You need to substitute expenses that are not wages. These can be easily extracted by averaging your previous month's data. ➗
Let's say this is 40.000.000.
And the rest just has to be deducted to get the wages.
85.000.000 - 40.000.000 = 45.000.000
Then the final equation looks like this:
💰 Revenue: 100.000.000 ✅
🤝 Wages: 45.000.000 ✅
🛒 Non-wage expenditure: 40.000.000 ✅
💸 Total expenditure: 85.000.000 ✅
📈 Profit (15%): 15.000.000 ✅
And this will be your salary cap.
Now you know...
To make a 15% profit, you can't spend more than HUF 45,000,000 on wages.
💡 Side note: What can you do if you are under 10% profit? "Possibility A, you lay off some people, which is a tough decision. "Option B" you cut all other costs and try to increase productivity to reach 10 then 15%.
This will give you a clear decision if you want to hire new staff.
Can you still fit it into your salary cap? Or not? 🤔
👦🏼: "That's all well and good, but it still doesn't answer my question... How do I scale this?!"
You're in luck, because there's a brilliant formula for that too, which I wish I'd known sooner. 😒
Greg says that if you've managed to achieve a 15% profit so that everyone gets a marketable salary, then it's time to scale.
And we will do this by reducing our profit from 15% to 10% and investing the amount saved in wages. 💶
To return to our example, 5.000.000.000 profit would be reinvested in wages.
I show how the equation would change when scaled:
💰 Revenue: 100.000.000
🤝 Wages: 50.000.000
🛒 Non-wage expenditure: 40.000.000
💸 Total expenditure: 90.000.000
📈 Profit (10%): 10.000.000
So, our salary cap has gone up to 50.000.000, which means we can hire new people. 🎊
If all goes well, these new employees will soon get up to speed and start working with the same productivity as the existing team members.
As a result, turnover will start to increase. 📊
Which results in Profit growing with it.
Once Profit reaches 15% again, the process can start again.
And that's how you can safely scale your business. 🧑💻
But before you take the plunge into the world of scaling, here's the final piece of the puzzle.
Both Greg and Mike agree that you need a backup.
This is our last concept...
5. Safety margin 🏦
The idea is to set aside a large amount of money in advance, which you can draw on if times get tough.
It's like being your own bank.
The safest way is to see how much your company spends in total each month.🗓️
And multiply that number by 3.
If we go back to our little example, our total spending for the YEAR was 85,000,000. 💰
We divide that by 12 to get our monthly.
85.000.000 / 12 = 7.083.333 Ft
So that's our monthly spending.
Now multiply this by 3 to get the perfect safety margin level.
7.083.333 x 3 = 21.250.000 Ft
Our primary goal is to accumulate 21.250.000 Ft in the company, which will serve as a safety reserve for us. 🔒
💡 Side note: The writers recommend that you do not take dividends until this is done. I know that's pretty strict, but I also encourage you to take dividends until your company achieves this, only in a modest way, because you are putting the health of your company at risk.
You have to fund the safety reserve out of your Profit "pocket". 📈
Here is a checklist of when to scale your company:
- Pay everyone in the company a marketable salary ✅
- You have the 3-month safety margin ✅
- You have at least 15% profit ✅
If all these are true for you, it's time to scale!
To the moooooooon! 🚀
📕 Book review: here I have put it all together at the end. If you want to get your private finances in order, these can help:
Untamed - Tony Robbins
Secrets of the Millionaire Mind - T Harv Ekker
The Psychology of Money - Morgan Housel
The Intelligent Investor - Benjamin Graham
You can find them all summarized in BookBase! 🎧
📕 Book recommendations: If you're looking to get your business finances in order:
Profit First - Mike Michalowicz
Business Math - Greg Crabtree
Simple numbers 2.0 - Greg Crabtree (only useful for companies worth hundreds of millions)
Finally, here's the usual...
✅ What exactly do you do?
[ ] First step, work out what your marketable earnings are. 🧮
[ ] Step two, work out what your marketable earnings are for your employees. 👨🔧
[ ] Step three, now using the above amounts, calculate your actual Profit. 💸
[ ] Step four, compare it to Mike's ratios (15-30-15-40). 🔍
[ ] Step five, open a YNAB account and add the accounts. 💳 (Profit - Owner's salary - Tax - Operating expenses)
[ ] Step six, look at all your spending for the last 3-12 months. 🗓️
[ ] Step seven, cross out or replace those that are not essential. ⚖️
[ ] Step Eight, count your labor productivity. (real income / payroll = labor productivity) 🛠️
[ ] Step nine, set your salary cap at 15% profit. 🧢
[ ] Step ten, calculate your total monthly costs. 💰
[ ] Step eleven, determine the size of your safety margin. 🔒 (total monthly cost x 3 = safety margin)
[ ] Step twelve, start topping up your safety margin from your Profit pocket. 📂
[ ] Step thirteen, once this is done, try to improve your work productivity to reach the 15% Profit target. 🎯
[ ] Step fourteen, if your employees are not yet earning a marketable wage, it's time to gradually bring them up to speed. 📈
[ ] Step fifteen, then, when that is done and all 3 criteria are met:
- Everyone in the company has a marketable salary ✅
- There is a 3-month safety margin ✅
- You have at least 15% profit ✅
Then it's time to scale. 📊
I sincerely hope it was useful, I really squeezed in all the knowledge I know about business finance! 🧠
You know, the reason I like writing these is because it's a quick way to tease out which parts I don't really understand yet. Then I just pick up the book and read until I get the gist. 📖
So, thank you for letting me write to you and thank you for your attention! 🙏🏻
🔥 Biggest obstacle
Making time for everything at once. 🤯
I'm already thinking about the next Mindset Meetup, lots of people are writing about the OM Merch Drop, not to mention the GOAT formula.
I feel like I would be torn in many directions if I gave in to the temptation. 😔
So now I have assigned myself the perfect plan:
I'll only do Mindset Meetup at the very end of April before the trip. 🧠
I'll only drop the OM Merch if I can find someone who can do the packing and posting for me. 👕
💡 Side note: If you know of someone who makes sweaters and can sew them to a good quality, be sure to let me know!
And I have set a mid-April date for the GOAT formula, when it will only be on the site for 3 days and then it will close again for a good while.
💡 Side note: since 2020 the GOAT formula has been the same price and due to inflation, it no longer reflects the value it has. Therefore, I have concluded that the price will stay the same for now, but there will be a larger increase next.
📖 What have I read now?
I finished "The Motive" by Patrick Lencioni. It was probably the best book I have read on leadership so far. Probably because it presented the failures through a story that I could easily relate to. 👥
Then I threw myself straight into the deep end. I am reading "High Output Management" by Andrew Grove. It's the bible of management, brutally dry but practical in return. Andrew was the CEO of Intel and is still considered one of the best managers in the world. 🧑💼
From this book, you can learn concrete lessons on how to run a company of several 100 people. There are a few lessons that we can't apply yet, but the part about motivating and training employees was definitely a plus! 📕
🥳 Fun fact: I learned from the book that it was half in Hungarian. Andras István was born as Grove István and became Andrew Stephan Grove. I was honestly a bit proud.
🎧 What have I just listened to?
I spent this week mainly reading, watching only one video on YouTube - my friend Pityu's - which was quite thought-provoking. (HUN)
✍🏼 Top quote
"Profit is not an event. It is a process. " ~ Mike Michalowicz