Business Basics 4: Turnover is ego - profit is everything

When I was about the same age as my children are now, my father became insolvent and lost the chain of television shops he had spent a decade building up. His business, as I now understand, was profitable – but the amount of money he was owed by debtors and the amount of money he owed his creditors balanced – and there was no way through the cashflow crisis that created. As a child I didn’t understand the reasons for the change in our circumstances but as I grew up I had two simple messages reinforced to me by my father: Turnover is good for your ego, but profit is everything. And Cashflow is king – but that is another Business basic.

During the dotcom boom, and several other booms, business sometimes seems to find a way round this dictum but, inexorable as gravity, in the end we all need to make a profit. Google did not make money for a long time, but now is a cash machine with the profits from online advertising. Skype on the other hand now seems to be worth a lot less than ebay paid for it.It is an easy thing to assume that if the turnover is there, then the profitability will follow – at a reasonable percentage. However the evidence is there that lots of businesses are what are uncharitably known as “busy fools” – working harder, bringing in more work, but not increasing profits at the same rate (or even at all). How long will Twitter and Spotify be able to go on growing without making a profit? Will they survive?

The holy grail of business is to increase volumes and margins at the same time, and it is the mantra of many sales managers (“sell more at higher prices”), which is instantly dismissed as impossible by many salesmen. It seems far easier to increase volumes by eating away at margins – which means we have to work harder to make the same money. That is the Red Queen’s Race in Alice in Wonderland, where we have to run just as fast as we can to stand still. In the end it is often unsustainable, and volumes drop without margins returning to previous levels and then the trouble starts.

As a consultant I am aware of some of my colleagues and competitors working for low rates that they hope will keep them busy. During the bad times, like the ones we have now in 2009, if the volume of work drops then they no longer able to sustain their business. If more profitable work becomes available they are often unable to take advantage because their time is fully booked with low value work. Clients buy our expertise, but they buy it in time based units. When it is gone, it is gone.

There are valid reasons for pushing for increased turnover – some Buyers will insist that a single contract is no more than 25% of a suppliers turnover, so the bigger the turnover the bigger the contract you can bid for. It can make the company seem more substantial that it is in reality. And as an owner or director it sounds great to define your business by the turnover - £1m, £10m, £100m. It is worth remembering that that is the way the big bankrupt companies described themselves, rather than their profitability - £10k, £20k or even nothing at all.

Of course, if you can maintain reasonable margins, then growth in turnover is excellent. We just have to remember that what we are trying to achieve is more profit, and that does not inevitably follow from increased turnover.

In the North we have a phrase about being all fur coat and no underwear… (to use the polite version). It is worthwhile for all of us to have a good look at the business we are gaining and checking that it really is generating a respectable profit (or that we have other reasons for taking it on), and that we are not just fooling ourselves into taking on more work for no gain.