Doing Profit First “Right” – Ep 13 Blog Post
[Adapted from Episode 13 of the Profit First Nation podcast]
Back when we first started this podcast, we got a lot of mail asking some version of this question: “How can I make sure I get Profit First right?” Well, lucky for you we’ve written this post specifically to help answer that exact question.
If you’re familiar with the Profit First system, you might already know what we’ll recommend for your very first step. You gotta get your butt to the bank and get those five foundational accounts open! For those who aren’t as familiar, the first five foundational accounts are INCOME, PROFIT, OWNER’S COMPENSATION, TAX, and OPERATING EXPENSES.
If you need help understanding how the foundational accounts work, be sure to listen to Episode 2: Get Your Butt to the Bank for a more in-depth look at how to get started with Profit First. Or, if you want the CliffsNotes version, check out these two blog posts (Part 1 and Part 2) explaining the first three steps you should take when you decide to implement Profit First for your business.
But a question we get often that is not addressed in either the podcast episode or the blog posts is whether the first five foundational accounts should be checking or savings accounts. Our answer: the first five foundational accounts should be checking accounts. The other two foundational accounts (the PROFIT HOLD and TAX HOLD accounts at your inconvenient, pain-in-the-ass bank) should be opened as savings accounts.
We’d also like to offer a quick reminder that “Profit First-ish” does not work! If you skip the very important step of opening actual bank accounts, you will not be able to control your spending effectively. This defeats the system and will prevent you from successfully increasing your business’ profitability.
Next, you must embrace your new habit of literally taking profit first. Immediately allocate 1% from the INCOME ACCOUNT to the PROFIT ACCOUNT after every deposit. This one small change will start you on the road to permanent profitability.
Now, in order to remain on that road, you’ll need to start making small adjustments to your allocation percentages every quarter. At the beginning of each quarter, adjust your percentage points up or down 1 to 2 points. Remember to take it slow – reaching your Target Allocation Percentage takes several quarters of small, painstaking changes. We recommend only adjusting your allocation percentages at the start of the quarter, and then keeping those new percentages locked in until the next quarter begins.
A word of warning: never adjust your allocation percentages in anticipation of a slowdown or a windfall. Profit First is a cash management system – you should only distribute funds you have available on-hand. Making ad-hoc changes based on future predictions is simply not the Profit First way.
And some helpful advice: do not make the mistake of being too aggressive with your allocation percentages right out of the gate. Implementing Profit First is a marathon, not a sprint. Reaching your Target Allocation Percentages will take time and discipline. If you make changes that are too drastic at the beginning of your Profit First journey, it will just take that much longer for you reach your financial goals.
The bottom line is this: be aggressive with your implementation, not your percentages. Trust the Profit First process, and you will get to where you want to be by making measured changes to your spending behavior and adjusting your allocation percentages 1 to 2 points each quarter. Your ultimate goal is to reduce operating expenses so that you can increase your profit, owner’s comp, and tax allocations.
Heed the advice above, and you can be confident that you are doing Profit First right!