Recently I have been coaching high school entrepreneurs. One evening, after a coaching session, I realized that they and the contestants on reality TV show Shark Tank have something in common that is probably the biggest barrier to success for any new business. While many entrepreneurs have exciting ideas, they focus too much on the potential and not enough on the profit. Consider the profit model.
You should develop a preliminary profit model at the beginning of your process and adapt as you proceed. Things may change along the way, but if you set out to be profitable, you stand a much better chance of getting there in the end.
- The profit model is a guide, not the definitive answer. However, it allows you to understand the underlying issues in your business and how changes impact profitability.
- The profit model is guidance for you, not a document for others, so keep it simple. For example, in the beginning you don’t need estimates for every single expense. Use estimates for broad categories that you can refine as you go.
- The profit model can also be the basis for investor presentations. Think about it: on Shark Tank, the Sharks get most frustrated when entrepreneurs can’t articulate current and potential sales and profits.
How can you develop a profit model before you have your planning completed?
Easy. The model is just a model and should be designed to evolve as you develop your programs. It is the financial companion to your elevator speech, which you craft well before you have any revenue. It also has several characteristics that enable you to develop the details of your business plan.
- It’s an exercise that allows you to understand what it takes to make money and focus on the key factors that will affect profit;
- Its flexibility allows you to analyze the interaction among various strategies like price, costs, marketing etc.;
- It provides a map of how and when you will grow and be profitable, and a quick measure of capital needs;
- It encourages you to revise your estimates on spending and understand how expense relates to profit.
Startup Connection has produced a very simple operating profit model template which you can download free here.
Easily customized, this simple model assesses the impact of different factors. You should generally include the following inputs:
- Sales volume goals;
- Average selling price by product and distribution channel;
- Cost to produce one unit;
- Marketing costs to achieve the desired volume;
- Costs for labor and administrative functions;
- Profit over different time frames.
Then you can manipulate the model to evaluate alternatives and develop effective strategies to modify estimates in order to build a viable business.
For example, you should understand the relative impact of price, margins, costs and volume on profits. If you have high margins, then increasing volume (even with some price decreases) can dramatically improve profits. In contrast, if you have low margins, focusing on costs and prices may have greater impact.
The beauty of an operating profit model is that you can even customize the focus of it and look at several products or multiple distribution channels within the same framework. Startup Connection has developed more than 50 custom templates to address these needs, as well as logistics, marketing, multiple direct selling models and various verticals with specific operating needs.
The profit model is your secret weapon. It’s an easy to understand model that focuses on key parameters that affect sales and profit. The basic Startup Connection template can be downloaded for free and modified to suit your needs. If you’d like some help, the first hour is free. We will work hand in hand with you to evaluate your operating parameters and customize the model to your business. Turnaround time for is not months, or weeks, but typically within 2 business days.
Whether you work with us or do it on your own, the most important thing is that after working with our template, you’ll have the basis for an operating profit model. That puts you ahead of many other entrepreneurs, and who knows, maybe someday, you’ll even be ready for the Sharks.
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