Here’s a dirty little secret about business that I learned pretty quickly – most entrepreneurs and business owner’s aren’t nearly as financially successful as they appear to be.
Early in my career I remember going to fitness conferences where we were regaled with stories how this or that business was producing record sales, had hundreds of training clients, and was moving into bigger and better real estate. Looking back now I don’t remember profit ever being talked about, or how much the owner was actually taking home as pay.
The topic of owner’s compensation remains a huge problem in most small business. It doesn’t matter how much you are producing in sales if you are living in a van down by the river (RIP Chris Farley).
Here’s the bottom line; the owner of a business needs to be paying themself a market-based wage.
The simplest way I have found to determine what a market-based wage in your industry and for your role is to ask yourself this question:
“What would I have to pay someone else to do the job I do?”
If you aren’t making that, you are stealing from yourself.
I get it. Your business in new and you can’t afford to pay yourself that much – yet. You actually have an advantage over a more mature business, as you most likely don’t have the overhead that comes with a lot of employees. You have more control of the situation, but you still need a plan to close the gap between your current salary and your market-based wage. And you need to be tracking all this.
Now to the “not so new” business owner. What is your deal anyway? Why do you continue to add overhead (more employees, fancier “stuff”) and leave yourself scrambling for scraps?
Let me put it to you this way. You have a job opening in your company which is slotted for a salary of $75,000. You decide you want the job, but only if the owner (you) agrees to pay you (the employee) $30,000. How long do you think a new hire would be satisfied in their $75,000 role if they were only getting paid $30k?
Why are you?
“But I’m NOT satisfied”, you may be thinking. Then what are you doing about it? An owner who finds themself in this situation has some hard decisions to make, and too often just never gets around to making them. Getting serious about things like overhead, debt, and excess employees and wages is necessary for long term viability, not to mention your sanity.
But there is more to this than you just being your most underpaid employee, as bad as that is.
You are also severely devaluing your company. No matter the size of your business and how big you want to grow it, you need to think about the value of your business in the terms of an outside investor. Would I want to buy your business today? Why or why not?
When I sold my first service based business its value was directly linked to “benefit to owner”.
In other words, what could the new owner reasonably expect to draw as salary, profit distribution, and other wage related benefits after purchase? Numbers don’t lie. Your business is going to be far less valuable, if not practically worthless, if you can’t show you have been making good money.
And realistically, these are just a few things in the “market-based wage” discussion. There are potential tax implications in paying yourself too little (in the eyes of the IRS). From a practical standpoint, if you can’t pay yourself General Manager money, how will you afford to hire a GM and have anything left over for you?
You wouldn’t put up with an employee stealing from you. How long will you put up stealing from yourself?
The first step to paying yourself a market-based wage is actually sitting down and doing the work of defining what roles you are currently filling and how much they are worth. What’s the number you came up with? What’s the gap between that number and what you are currently paying yourself? What are you going to do about it?
And one more pet peeve. You are just fooling yourself if you aren’t adding in Owner’s Compensation when you calculate your net income and margins. As we discussed before, the value of the business is related to how much benefit it is creating for you as the owner. An audit will reveal that. But beyond that, what would your net income be if you were paying yourself a market-based wage? I have seen margins drop below zero if you run those numbers. Not cool, and dangerous to the health and long-term viability of your company.
- Calculate your market-based wage, and your wage gap.
- When you calculate net income, make sure you are adding in Owner’s Pay. For instance if you are an LLC and take draws, that won’t usually show up on your P&L.
- Calculate your net income again, this time using your calculated market-based wage. How do things look now?
- Formulate a plan to close the wage gap, and track your progress monthly.