One of the biggest lies founders tell themselves is around profitability. I know because I have told it to myself.
Ramen Profitability
It usually goes like this. As a founder, you are desperate to preserve cash and maintain runway. You also want the ego hit of ‘being profitable.’ So you look for places to cut and one of the easiest and quickest ways to cut is to not pay yourself and to not take distributions. The second easiest way is to under invest in the business (accounting and finance seem to top the list). The business chugs along, OpEx is smaller and voila, we have reached profitability.
But what you have really reached is Ramen Profitability. You and the business can maintain this level of profitability only as long as your self denial discipline and the rubber bands, duct tape and daily hoop jumping holding the business together can last.
Don’t get me wrong. Nearly every founder goes through this stage. And everyone is proud of their scars. Living to fight another day is critical. If you are in this stage or have gone through it, I commend you.
But your goal is to build wealth. You aren’t going to achieve that by not paying yourself and not taking distributions. And you can’t scale a company to a meaningful exit that requires daily heroics just to stay in business. The acquirers want to know the business is profitable and can grow without the founders’ monastic commitment and superhuman efforts.
So the problem comes when Ramen Profitability is no longer the temporary mindset but the permanent mindset. When ‘a couple months of this’ becomes a couple years.
Real Profitability
The fix is to track your ‘real’ profitability when you build your plans and forecasts. This doesn’t need to be fancy or complicated.
- Create an OpEx number that has the following:
- a salary you want (or at very least a market salary)
- market salaries and benefits for the team
- headcount needed to stabilize the business for a foundation for growth
- investments in tools and software needed for that growth
- If you have been cutting marketing, set the marketing budget to what you think is the right percentage of net sales.
- Set a percentage of Free Cash Flow for distributions or a baseline minimum e.g. $200K per year
- If you have made cuts or foregone investments in other areas, bring those line items up to where you believe they need to be to stabilize and then grow the business
The result of this will be a line substantially below your Ramen Profitability which will cause you to ask two big questions.
- Can I achieve that level of profitability?
- How do I do it?
The answers are going to lie in improving your margin structure, improving free cash flow generation, increasing or maintaining repeat purchasing and adding customers efficiently. No surprise, right?
The point of seeing these two lines is to force you to confront the issues in the business so you prioritize fixing them.
If you need help moving past Ramen Profitability, I offer brand leaders a 10 day sprint to a clear plan for cash, capital, and profitability. Let’s talk.