Did your business promote a Black Friday deal this year? If so, now’s the time to set up a Drip account within your Profit First system—before you spend the revenue that you made.
It’s an account you create to help you manage the cash flow when you receive a lump sum payment instead of installments for a service or offering that you’ll be providing to your clients over a long period of time.
Maybe you’re selling a discounted annual gym membership to customers who pay upfront for the year in full. They’ll be using your facilities and your resources over the course of 12 months and your expenses to service them will be accruing over that same period of time. So it doesn’t make sense to treat their full payment as money in your pocket now.
Instead, stretch their payment out over 12 months even though you’ve received it all at once. The sensible thing to do is to place the revenue in a Drip account, then take a proportional amount of the money and “drip it out” each month. So you’re matching revenue with expenses on the same timeline.
If you don’t allocate this money correctly, then it’s just money without a plan, and you’re in danger of spending it. We see this a lot: businesses in year-round “Black Friday mode,” trying to sell annual memberships, or offering other long-term, one-time payment deals, because they’re always needing a large influx of funds—to pay for services they sold months ago but don’t have the resources to cover now.
As one of the biggest spending days of the year, Black Friday is a classic time to offer special membership or subscription deals. But your business should use a Drip account for any similar payment structure regardless of the time of year. Retainer fees, sales of packages and bundles, pre-payments—these all might warrant the use of a Drip account.
Of course, if the membership deal is six months instead of 12, or if it’s an unlimited package deal for three months, then you’d prorate the funds accordingly. You might need to create multiple Drip accounts if you have multiple levels of deals on offer. You can also book a call with a professional to help you determine how much to drip each month.
Don’t be tempted to move more than 1/12 of the Drip account funds into Income every month. Can you see how you will end up overinflating your Profit First accounts? OPEX will definitely be too high, and you will mistakenly think that you can spend more on expenses—which could topple your whole Profit First system.
With Owner’s Pay, this inflation can be especially dangerous. If you’re an owner who withdraws the full amount from your Owner’s Pay each pay period, you’ll be paying yourself prematurely for services not yet rendered. (And you know we advocate for building a buffer in Owner’s Pay. Determine a living wage for yourself and withdraw that every month, leaving the extra for when tough times hit. True, Owner’s Pay will grow as your revenue increases, but you should be making calculated decisions to increase your Owner’s Pay allocation percentage using accurate earned income figures from previous periods.)
Similarly, you might think the Drip account should only be for setting aside some OPEX monies, and you can do what you want with the rest. Which would be…? Putting it in Owner’s Pay? Or Profit? You can see how you run into the same problem.
When you do offer long-term, prepaid deals, you need to price them appropriately to cover your expenses that will accrue over time. You’ll probably need to pay yourself or a team member to work with the client, so factor in payroll expenses. Don’t forget rent, utilities, insurance, and anything else that falls under OPEX.
You may think of offering deep discounts for existing services to get people to sign up. But consider how you can add value to your product offering instead of discounting the price. Throw in a free month of a nutrition app with the purchase of a gym membership, or add a free massage for buying a bundle of ten at full price. We’ve encouraged you to get creative to incentivize your clients in an earlier post.
We caution you against relying too heavily on “paid in fulls” to sustain income. Monthly recurring revenue models are much easier to manage in terms of cash flow. As you head into the new year, what are some ways your business can create excitement around a monthly subscription rather than waiting for the next Black Friday to roll around?
When a client tells me they’re finding “extra” money in their Profit First accounts, I get excited for them, but also a little concerned.
Excited because more money in their accounts usually means their revenue has increased. Business is probably going well.
Concerned because—well, remember when we explained Parkinson’s Law? The demand for something expands to match its supply. It’s a phenomenon of human behavior that proves itself time and time again. As it applies to money, here’s what happens: The more money you have, the more money you will spend.
So, for example, when you have “extra” money in your OPEX account after you pay the bills, your natural tendency is to think that’s money that can—or even should—be spent. You may drum up reasons for ongoing expense spending without thinking through if it’s feasible in the long term.
You’ll spend it, and then you’ll form habits of spending.
When you accumulate more funds than you’d anticipated having thus far in your Profit First accounts, please don’t think of that money as disposable cash. It’s really just Money Without a Plan, which is a bad thing. You should always have a plan for what to do when your revenue shifts.
The beauty of Profit First is that you can build and tweak your plans through your allocation percentages. You already know you should review them on a quarterly basis, which is fine for the most part, but sometimes revenue has grown so much that you need to make an intermediate adjustment. Here’s what to do whenever your business has more money in its accounts than you planned for. (It might be time to make some new plans.)
The most dangerous place to have extra money is in OPEX. There are many options and ways to spend money on things that fall under operating expenses—it can be tempting.
But remember that Profit First is based on circumventing Parkinson’s Law. Your OPEX allocation should be set up to just cover your current operating expenses so there’s no extra money hanging out in there.
You can give yourself a little buffer though. What’s the minimum OPEX balance for your comfort level? It might be $100 or $500 or $1000, or one month of expenses. Consider that figure your “zero.” At the end of the month when all the bills are paid, if you have substantially more than your zero in OPEX, then you need a plan for that “extra” money.
What would best serve your business? It might be time to adjust your Profit First allocations to reduce the percentage going into OPEX and to drive them closer to your target percentages for the Owner’s Pay or Tax accounts.
Or, maybe it’s time to create an advanced account or two within your system. Reallocate some OPEX funds into its own separate bucket for an Annual Expense account, or a Marketing account… It all depends on your business needs.
Extra money in OPEX almost always means that overall revenue has increased. But it can also mean you’ve cut your operating expenses. Usually that’s part of a plan too, so your allocations should be adjusted accordingly.
Let this money accumulate until you’ve paid the taxes for the current period. Repeat: don’t do anything with this money until you’ve paid your taxes!
Once that’s done, you can transfer the extra funds to your Profit account and withdraw them as a profit distribution when the time comes. Or you could add the funds to an advanced account you’re working to build up.
If you’re finding extra money in the Tax account even though your revenue hasn’t substantially increased (or nothing else has dramatically changed), this could indicate that you may have been a little off in calculating your Profit First targets the last go around. The percentage allocated for taxes should result in the right amount of reserves you’ll actually need, because it’s based on your total revenue.
If it’s not making sense to you, seek the guidance of your Profit First coach or tax professional before adjusting your target allocations.
Good. This is one time when you need a little “extra” in there, or else freaking out may ensue. The pandemic has taught us that it’s so important to still be able to pay yourself when revenue dries up in turbulent times.
As with OPEX, you can decide on a comfort buffer. For some owners, it’s one month’s pay. But we recommend saving a cushion of three months. It really depends on your personal financial needs. Talk to your Profit First coach for guidance on the buffer and how long to keep it in your account—it’ll be different for every owner based on your overall financial health.
If you’ve accumulated more than three months in Owner’s Pay, think about increasing your monthly pay disbursement, or adjust your allocations to put more money in Profit and use it to work toward building a rainy day fund or retirement plan. Realize that anything in Profit is still owner’s pay, but sometimes it’s how you label the funds that can determine how wisely you spend them.
No one has ever complained that having extra money in their Profit account was a problem—go figure. But let’s say you’ve taken your regular profit distributions, you’ve paid off all your debt, you’re jetlagged from enough vacations… and you’ve still got extra profit that you don’t know what to do with. This is the moment to put your profits to work for you, by venturing into investments and retirement planning, if you haven’t already.
However, this is assuming you’ve already got three to six months of revenue sitting in a VAULT account. This is the ultimate disaster preparedness plan for your business, and if you’ve got more Profit than you know what to do with, then you’re surely in good enough shape to be amassing a VAULT.
Don’t hesitate to ask us for help in designing a plan at any stage of your business journey. This is exactly what we do.
Bringing on new employees is an exciting part of business growth. But if you haven’t done it before, or even if you have, it may be daunting to think about taking on the added responsibility. Can you afford the expense of a new hire? How do you navigate the administrative aspect of paying them? Maybe you’re only paying yourself thus far, and that’s simple enough—you just transfer fixed percentage allocations into your Profit and Owners accounts twice a month. That all changes when you have a team.
As you know, the Profit First system involves setting up five separate bank accounts for the distribution of funds. But there are smart reasons to create additional accounts, or subaccounts, to earmark and protect funds that need to be reserved for a certain purpose. Paying employees might be one of those reasons.
That is why we often suggest that if you have any employees besides you as the owner, you should create a separate payroll account, as a subaccount of OPEX.
Why do you need a separate payroll account? Why can’t you just take from OPEX to pay your employees? Two big reasons.
A separate account makes sure the money you’ve allocated for employee wages can’t accidentally get intertwined with all your other expenses, and then accidentally spent. For example, if your rent and your payroll are both paid out of OPEX and one of these expenses would happen to place you in overdraft this month, the bank will decide what to pay. The bank might choose your rent over your payroll. They’re both important, but which is easier to rectify?
Having separate accounts ensures that your team members get paid no matter what. Bouncing a payroll check is really the absolute worst for employee morale.
Having the payroll account split from OPEX also ensures that you meet your obligation to set aside the taxes you owe to the federal government on behalf of your employees as soon as you pay their wages. These funds can’t get accidentally spent either. This is another big one. You don’t want to get in trouble with the IRS for failure to pay your payroll taxes.
And don’t let us scare you too much. Read our blog post on some common payroll mistakes and how to avoid them.
Theoretically, a new hire should help to generate revenue in some way, or free up the owner to do so, but in reality things can take a while to get off the ground—or things might not go according to plan. You need to onboard the new employee, which takes time. Time where they may be costing you time and money.
And according to Profit First principles, hiring an employee is a business expense that you must be able to meet without increasing your current total OPEX allocation. This means, for example, that if your current OPEX target allocation percentage is 50%, and your payroll subaccount target is determined to be 25%, then your OPEX becomes 25%.
So how do you determine what percentage to allocate toward the payroll subaccount?
If you’ve already got employees on the books, take a look at last year’s figures to see what you paid for employees in total. Determine what percent of your revenue that figure was, and use it as a basis for your payroll target allocation percentage.
If you’re considering your first hire, you will want to have one month’s worth of employee salary as a buffer in your payroll account before you bring them on board. Determine what that figure is, and then try to transfer 2-3% from OPEX into the payroll account each month until you’ve reached that figure.
The length of this process will enlighten you as to whether hiring someone now is feasible. Did it take just a month or two to accumulate that one-month salary buffer? Then you can probably afford to add that employee. On the other hand, did you struggle to make available 2% from OPEX each month to transfer to the payroll account? If that’s the case, you need to rethink your decision.
Your business might depend on independent contractors, rather than employees. In terms of cash flow management, we recommend that you compensate them from your payroll banking account if they are providing your clients substantially the same service that is provided by your business as a whole (for example, personal trainers who are contractors at a fitness studio). If, however, the independent contractor is providing a service FOR your business, such as janitorial or marketing services, you should include this expense as part of OPEX.Here’s more on leveraging team members in your wellness business.
Who doesn’t want a more profitable business? We’re in business to help people, sure, but we’re also here to make a living. And if we want to make a good living with a business, we need to be profitable.
This article will focus on the latter—reducing expenses to increase your profitability. Because while increasing revenue is important, most businesses forget that increased revenue is not an excuse to lose sight of expenses. The beautiful thing about this strategy is that it simply involves cutting some expenses to increase what you keep. Expenses that you probably don’t need anyway.
To reduce your expenses, simply conduct an Expense Analysis. There are many ways to conduct one, but here’s a simple method that anyone can use:
Make a list of your common and recurring business expenses.
Trash or Trim your list.
Contact the vendors to cut/trim expenses.
Any business can do this in a couple of hours. The more your cut, the more profitable your business becomes–as long as you’re not cutting out vital services in an effort to save a few dollars. It’s worth weighing whether cutting out a service will mean less fluidity of workflows or more time investment for you.
We recommend going through this process on a quarterly basis at a minimum. This practice will keep you financial efficient and profitable.
Not sure if you can eliminate a particular expense? Try this test…
Eliminate the expense for a month, but be prepared to regain if needed. How do your customers react? Does your team notice its absence? Are you having to spend any additional time connecting dots that are no longer connected? If no one is negatively affected, then you could probably eliminate the expense.
Remember the old saying, “It’s not what you make, it’s what you keep.” Doing a quarterly expense analysis will help you keep more of your money, and help you earn higher profits. If you need help implementing Profit First in your business, let’s connect. Schedule a call with us today.