Connect with us

Cash Flow

What Profit Really Is And How To Increase It

Most business owners think they understand profits, margins and how much they’re actually making. The reality is that many don’t. How much is your business really making, and what should you do with it?

Ed Hatton

Published

on

what-is-profit

Cynics say that profit or loss is an accountant’s opinion about the business, that only cash is real. You need cash to run the business, to pay salaries and buy stock, but if you make losses instead of profits, you are likely to run out of cash.

Profitability is a serious issue; it pays to understand the principles and terms like gross and net profit. Do you keep track of profits or do you wait for the year-end results from your accountant, and hope for the best?

Gross profit explained

In simple terms, gross profit is the income from sales minus the amounts you pay to buy or manufacture the goods you sell. Gross profit will increase if you sell more, and reduce if your sales are down. It’s a variable, which is why it’s tracked separately.

If you run a pure service business, you have no cost of sale, so your turnover is your gross profit. Net profit takes into account all the operating expenses including salaries, rent, travel, IT costs, vehicle maintenance and everything else you need to operate the business.

Related: How To Increase Profits By Focusing On The Needs Of Customers

There must be sufficient gross profit to cover these expenses and leave something over for profit.

  • Gross profit = sales – cost of sales
  • Net profit = gross profit – operating expenses

Factors like tax, interest earned and depreciation affect the final profit. I suggest you leave those to your accountant. To manage a SME, it’s usually sufficient to know the difference between your income (gross profit) and your operating expenditure.

You should get an Income and Expenditure account every month or at least once a quarter, unless you are a very small, cash-only business. Net profit is the amount of money the business makes. Net profit rewards the entrepreneur for the capital and effort he or she has put into the business and the risks they take.

In basic terms, capital is the money you put in to start the business, and retained profits since then. A net loss will reduce this capital and if this happens all the time the capital will all be consumed, the business will be unable to pay its accounts or employees, and will cease trading.

Where do the profits go?

Profits can be paid out or used in the business. Profits can go to shareholders as dividends but good entrepreneurs will reinvest some or all of the profits in developing the business by increasing skills, building the brand and becoming more competitive.

You could do this with training, marketing or new systems, machinery and equipment. You could increase salaries or pay staff bonuses, or you could keep profits as a reserve for bad times.

Choosing which of these options, or which combination of them would be right for you will depend on the reasons for current profits. If you have steadily increasing profits, you may want to reward your staff and shareholders for their contribution. Alternatively, if you have a big windfall profit you could use some of the profit to buy smaller competitors or develop new product ranges.

Related: How To Have A Business That Offers Profit With Purpose

How to increase gross profit

Gross profit can be boosted by selling more, or by buying or manufacturing smarter and so reducing the cost of sale. Price increases will have the same effect, but they should be selective, based on the competition and the demand for each product range.

Increase some prices and leave others the same or even reduce some. Aside from increasing the gross profit, you can increase net profit by cutting expenditure.

Improving gross profit is likely to have a much bigger effect on your profit than trying to reduce operating costs like travel, entertainment or stationery.

Profit is not only a matter for accountants, or something you only consider at year-end; it is a vital part of management information, which you should have regularly to run your business effectively.

Ed Hatton is the owner of The Marketing Director and has consulted to and mentored SMBs in strategy, marketing and sales for almost 20 years. He co-authored an entrepreneurship textbook and is passionate about helping entrepreneurs to succeed.

Continue Reading
Advertisement
Click to comment

You must be logged in to post a comment Login

Leave a Reply

Cash Flow

Kathryn Main On Entrepreneurial Finances

For Kathryn Main, turning a passion into a pay cheque came out of a huge learning. As a mom of three with no more than a Grade 9 education, Kathryn Main came from nothing, lost everything and then rebuilt her life again at age 30 through financial education.

Published

on

kathryn-main

Kathryn spent years drowning in debt and as a result, she was blacklisted for eight years with no access to finance or credit. On a mission to clear her name, Kathryn dedicated herself to getting to grip with her finances and learning the do’s and don’ts.

Kathryn says that during her battle of being black listed, she paid off all her debt diligently over a four-year period (half the time that it took to make it). “I made a commitment to each creditor and paid as per my agreement. When I had extra disposable income it all went straight into paying off my debt” she says.

On her journey, she was amazed to see how many people were too going through the same thing. “In South Africa, there are more people with debt than with jobs. Our out of control spending habits and the ‘buy now, pay later’ habits have spiralled out of control,”

Realising that parents are the biggest influencers on kids and that these bad habits had been passed on through the generations, Kathryn made it her mission to not only educate herself, but to start engaging on the importance of teaching financial literacy to kids and speaking openly about finances in the household.

With a firm belief in the difference that raising money savvy kids could make, what started off as a passion project has evolved into a business and today MSK partners with various big corporates to develop custom financial literacy content – all developed by Kathryn’s full-service advertising agency, Main Multimedia.

Related: Small Business Funding In South Africa

Kathryn talks to some of the financial biggest lessons that she has learned as an entrepreneur:

  • Make sure to have a separate bank account for your VAT. SARS wants their money on time and if you don’t pay they take money out of your business bank account
  • Never empty the bank accounts. Debit orders and payments are always going off. Bouncing debits and payments gives you a poor financial credit score so getting finance when you need it becomes impossible
  • Don’t use your business account as your personal bank account. Pay yourself a salary and budget properly. Using business cash to supplement your over spending leaves less money for legit business expenses
  • Always use a book keeper to ask for money. Asking for money from clients’ ruins relationships
  • Make sure you are very clear about your credit terms with your customers.

After a long financial journey, Kathryn says that she does believe that banks are actively trying to be better for entrepreneurs. “I foresee a lot more support and understanding for our ventures in the next few years.”

Kathryn shares five financial tips for entrepreneurs in SA:

  • Keep an updated budget that you review and amend on a monthly basis. This way you always know the situation you are in and how much money you need to make to break even or make a profit
  • Always pay the tax man
  • Cash flow management is extremely important. Billing out quickly and money in on time is essential
  • Contracts with clients around payment terms are necessary.

Continue Reading

Cash Flow

How You Can Make Your Unit Trusts Work For You

How investing in unit trusts can help you build your nest egg while remaining focused on your business.

Nadine Todd

Published

on

unit-trusts

What should be an investor’s strategy when it comes to unit trusts?

Pieter Koekemoer:

A financial plan starts with clearly defining your objectives. It’s easier to get what you need when you know what you want. Unit trust funds are regulated investment vehicles that can meet the full range of investor needs. Once you know how long you want to invest, it becomes possible to narrow down to the appropriate set of options.

The key thing to get right is to take the level of risk appropriate to your needs. Taking on too much risk means that you may have less capital than expected when you need it. However, too little risk and you will eventually end up with much less capital than was possible. Generally, investors are well served with an investment in multi-asset funds (also called balanced funds) with a suitable risk budget.

These funds are diversified across all the asset classes and require less ongoing decision-making from the investor’s point of view and can be more responsive to a changing environment. This allows you to focus on building your business and getting on with your life while your nest egg accumulates over time.

Magdeleen Cornelissen:

South African investors are privileged to enjoy access to a vast number of unit trust funds, easily accessible via various investment platforms. The law of unintended consequences, however, can cause investors without a proper investment strategy to use inappropriate funds to address their needs. To ensure that a investor selects a suitable unit trust fund, the investment strategy should focus on the term of the investment, appetite for risk, as well as the possible future investment withdrawal requirements.

This could provide the investor with insight into the type of funds to include in the portfolio to ensure a desired future outcome. Investors must gain insight into the mandate of the funds considered, to ensure that the fund strategy is aligned with the investment strategy.

Dr Vladimir Nedeljkovic:

Investors today are exposed to a bewildering choice of unit trusts and other investment vehicles (ETFs, hedge funds, linked policies etc.), utilising different investment approaches (single manager, multi-manager, active, passive, smart beta…), and investing in various asset classes (equities, bonds, property, multi-asset/balanced). For non-professional investors, this choice may potentially prove paralysing.

One way to deal with this ‘paradox of choice’ (an observation that more choice often leads to sub-optimal decisions) is to focus not on the funds themselves, but on the actual needs motivating the investments. Every investor should, inter alia, reflect on the following questions: What am I investing for (a holiday, a car, my children’s education, retirement)? When will I need the money (is my investment horizon one year, five years, twenty years and so on)? How sensitive am I to investment losses (what is my risk profile? Am I prepared to risk ups and downs in my current investment returns for the potential higher returns in the future)? Only after answering these questions can the process of selecting the appropriate investment vehicles and strategies start.

Related: Equity or Property Unit Trusts?

How does this differ from other investment vehicles?

Magdeleen:

Each investment vehicle is associated with a unique set of rules. Before investing in any investment vehicle, it is important to understand the rules of the product. What stands out about a unit trust investment is the fact that the product is open-ended and that investors have access to their capital. In contrast to retirement investment products, no asset allocation restrictions apply, which makes the investment vehicle appropriate to address a vast number of investor needs.

Pieter:

Investor strategy is not defined by the vehicle used to implement the plan but by your needs. The primary benefits of investing in unit trusts over other options relate to transparency, investor-focused regulation and liquidity. All the fund managers offering unit trusts have to disclose detailed information about funds in a standardised and comparable format (think objectives, risks, approach, fees and past performance).

This information is always just a Google search away for all funds. Unit trust managers have a statutory duty to act with skill, care and diligence in the interests of their investors. If you want to change providers, you can do so at will, with your money back in your bank account in a couple of days, in nearly all cases without incurring direct exit or switching costs.

Vladimir:

Collective investment schemes (CIS) are investment products allowing multiple investors to pool their money into single portfolios. Long-only, standard unit trusts were the first CISs to be offered to investors in South Africa (today there are other collective investment schemes available, such as Exchange Traded Funds (ETFs), hedge funds, and so on). With collective investment schemes, each investor has a proportional stake in the CIS portfolio, based on his or her contributions. They are, therefore, suitable for investors who do not have the time, money or expertise to make direct investments into the market.

What research should an investor do before choosing the right unit trust investment for their investment goals and risk appetite?

investor-adviceVladimir:

When selecting their investments, investors often try to time the market and focus only on the funds with the best recent performance. This can lead to overall suboptimal investment performance. Research shows that due to reversion to mean, the best performing funds over one period are more likely to underperform over the next one. In contrast, investors should start with defining their desired investment outcomes (discretionary or compulsory, time horizon, return targets, risk appetite) and, in conjunction with a financial advisor, select the fund managers and funds that have the highest chance of satisfying those outcomes.

Pieter:

The textbook answer will be to define an investment strategy and then to evaluate the different implementation options by researching the 5Ps (philosophy, process, people, performance and price). This can be a tedious and time-consuming task, so many investors choose to delegate this decision to an advisor. Others short-hand the process by relying on well-known managers with a proven investment track record or alternatively to have no manager at all and putting their faith in the efficiency of markets by investing in a passive fund.

The key issue is finding a partner that you can trust to look after your interests in what is in essence a multi-decade undertaking with an uncertain outcome. As an aside, the debate between active and passive managers is fairly noisy and very public. It is important that you have a good filter to interpret the information you find online. Active managers try to beat the market, while passive managers attempt to replicate the market return. Both sides will point to the power of compounding to support their case. A difference of just more than 1% in the rate of return achieved can add up to 50% to the value of your capital at retirement. Passive managers will emphasise price as the key evaluation metric, while active managers will emphasise value (defined as the after-fee return received by the investor). At Coronation, we have a high conviction level that value will continue to trump price over the long term.

Related: The Truth About Unit Trusts

Magdeleen:

As a starting point, it is important to gain insight into the investment philosophy of the management team of the funds considered. Investors must understand the objectives of the funds. This would definitely require them to do some research on the fund manager considered. There are a number of risk measures that can be analysed. Be careful to not focus only on the ‘winners’ as historic performance is not always a true reflection of possible future outcomes. Spend some time to understand your own investor behaviour, specifically focusing on your tolerance for volatility, and your need for a certain outcome. Once you have done this, you will be one step closer to knowing which type of fund would suit your needs.

What should investors with a low appetite for risk consider?

Vladimir:

In general, such investors should consider money market funds or balanced funds with a lower percentage of equity holdings.

Pieter:

The most important question you should ask yourself is whether your risk appetite (your willingness to take risk) is aligned with your ability to take risk. If your investment portfolio is more conservative than is necessary, you are likely to incur a significant opportunity cost in the form of foregone returns. Investors who need both income and growth from their investment portfolio (i.e. most retirees) and investors wanting to fund near-term or medium-term commitments are the investors who typically face the most significant risk constraints.

Retirees need balanced portfolios with some form of downside protection against extreme market events, which would typically be described as medium or low equity balanced funds in the unit trust context. Investors with near-term objectives should consider managed income funds.

Magdeleen:

I am always tempted to have a conversation with risk-averse investors about the fact that shying away from assets perceived to be risky can actually cause them to increase the risk of not reaching their long-term goals. This is especially true after taking into account the effect of taxation and inflation. However, I have respect for the fact that not all investors feel it necessary to take on risk in an effort to generate additional alpha in their portfolio.

This type of investor will benefit from funds with a low-risk classification, consisting mainly of interest-bearing instruments. Care must be taken, even within the funds classified as low-risk, as there are instances where short-term shocks are still experienced within some of these funds, especially in the case of rapidly increasing interest rates.

What should investors with a high appetite for risk consider?

Magdeleen:

Be mindful of the investment term. I cannot emphasise this enough. Short-term investments should not include assets associated with volatility. If you have a high appetite for risk, give your investment portfolio sufficient time to digest the fluctuations in the value that can occur from time to time. In addition to this, I would also encourage investors to be mindful of the fact that the stock market is not a place in which we play with money. It requires knowledge, patience, and an ability to distinguish between the noise that occurs in the market from time to time and facts that actually play a role in the valuations of shares. Having a high appetite for risk is sometimes your biggest asset, but it can quickly turn into a liability if not managed correctly.

Related: Does a Retirement Annuity Make Financial Sense?

Pieter:

Take enough risk, ensure you diversify across local and international assets and stay the course despite temporary disappointment with investment outcomes. The past few years have been unusual, as equity markets delivered lower returns than expected. Losing faith in shares would be the wrong lesson to draw from this. Periods of weaker return typically coincide with fundamentals that are supportive of better future returns. Those that remain committed tend to do better over time as it is notoriously difficult to time markets. Also make sure that you maximise the tax breaks available to investors. Use your R33 000 annual tax-free investor allowance to invest in long-term growth funds, which will be described as high equity or flexible multi-asset funds.

Vladimir: Investors with a high-risk appetite tend to focus on equity funds, high equity balanced funds, as well as flexible funds and funds providing offshore exposure, depending on their circumstances. Such investors might start looking further afield, into RIHFs (retail investor hedge funds) and similar vehicles.

How much of an investor’s portfolio should typically be in unit trusts and why?

Pieter:

This depends on circumstances. Unit trusts are suitable as the sole investment structure for that portion of your balance sheet invested in listed assets. While entrepreneurs will always be tempted to go all-in to support their business ventures, it makes sense to diversify risk into a more diversified portfolio of investments. Creditor protection is also an important consideration. Holding your unit trusts via a retirement annuity fund may be a suitable response to this risk management need.

Vladimir:

This is difficult to answer without having a full picture of the circumstances of the investor, but that percentage is likely to be high, if one combines direct discretionary investment into the unit trusts with the indirect exposure via retirement vehicles.


This information is not advice, as defined in the Financial Advisory and Intermediary Services Act 37 of 2002. Collective investment schemes (unit trusts) are generally medium to long-term investments. The value of participatory interests (units) or the investment may go down as well as up. Past performance is not necessarily a guide to future performance. Collective investment schemes are traded at ruling prices and can engage in borrowing and scrip lending. The collective investment scheme may borrow up to 10% of the market value of the portfolio to bridge insufficient liquidity. The Managers do not provide any guarantee, either with respect to the capital or the return of a portfolio. Different classes of participatory interests may apply to portfolios and are subject to different fees and charges. Any forecasts and/or commentary in this document are not guaranteed to occur.

Continue Reading

Cash Flow

7 Things Every Entrepreneur Should Know About Managing Cash In The Business

Every entrepreneur needs to know how to prepare for cash, manage it effectively and mitigate fraud.

Chris Ogden

Published

on

managing-cash-in-the-business

Cash is complicated. It can’t be tracked properly, it opens up avenues for fraud, it gets stolen, and it is difficult to manage. It’s also an unfortunate reality that, in South Africa, cash payments and transactions are both inevitable and essential. So how can the entrepreneur overcome the challenges of handling cash? Here are seven ways…

1. Digitise

There are many ways to manage payments in the market today. You can Snapscan, you can Zapper, you can EFT and you can use an app to send money from a wallet to a mobile number. The problem is that none of these options recognise the fact that cash is still the leading method of payment in most markets. So, to really accommodate cash, the entrepreneur needs to look to digital solutions.

You can still physically collect cash, but digitise the transactional information so that you can easily identify the transaction and reconcile the cash collector.

Related: 5 Cash Management Tactics Small Businesses Use To Become Bigger Businesses

2. Protect the consumer

Ensuring that every cash transaction is tracked digitally means that you are protecting the consumer if the cash or transaction are lost. There is always the question – how can you service your customers post-payment without proof on your side? Ensure that your cash transactions are audited and accounted for to ensure you can recon accurately.

3. Don’t be a target

High collection points – those points where a lot of cash is collected and held – tend to become targets. Try to avoid putting your business in line of sight by using tools that can either limit the use of high collection points or that can alert the relevant security authorities if a theft occurs. Again, it comes down to digital tools to monitor, track and alert the right people at the right time.

4. Teach your customers

It’s one thing to invest into a bevy of tools and services to protect your transactions and consumers, another to let consumers make any number of silly mistakes. Teach your customers about fraud, potential risks, things to look out for and trust. They shouldn’t hand over their cash without the collector using the right tools or app and should be wary of any transaction that doesn’t have these protections built in.

Related: Improve Your Cash Flow: Manage Your VAT

5. Test and adapt

Invariably, those who want to commit fraud are equally committed to doing so. They will find loopholes and gaps that allow them to take advantage of you and your customers. Your best bet is to constantly test and adapt your systems, to build metrics in-house that measure inconsistencies and report back on any issues.

People are very creative and will find a way of helping themselves to cash that isn’t theirs.

6. Negotiate

Cash is expensive to manage so find ways of negotiating better deals with banks so you get the best fees. Cash-in-transit is expensive, but often necessary when it comes to large cash deposits.

7. Invest in a payment solution

Digital payment solutions aren’t always possible, but try to employ one that is easy to use and that can be gradually introduced to your customers. Adoption may be slow – it can take years to achieve low cash/high digital payments – but it will benefit you and your business in the long term.

Continue Reading
Advertisement

SPOTLIGHT

Advertisement

Recent Posts

Follow Us

Entrepreneur-Newsletters
*
We respect your privacy. 
* indicates required.
Advertisement

Trending