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Master These 16 "Parts" Of Your Business To Maximize Revenue, Profit And Cash Flow

by Todd Henry, CPA

Your business is a (money-making) machine and, like all machines, it has "parts" that work together to help it achieve its purpose. Optimize the 16 parts of your business to maximize it's money-making ability.

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Your business is a machine and, like all machines, it has "parts" that work together to help it achieve its purpose (i.e. to make money).

More specifically, your business has exactly 16 parts (or "drivers") that, if working in harmony at peak performance, will maximize your revenue, profit and cash flow.

If you stick with me, I’ll reveal these 16 mission-critical drivers, and then break them down for you, one by one.

Parts 1-5: Revenue Drivers

1. Leads

Leads are the number of potential ideal customers (i.e. prospects) that have been generated through your marketing efforts. This ‘part’ drives revenue because, generally, more leads will result in more paying customers. For example, if you have an HVAC business and you advertise online (e.g., Google or Facebook ads) for HVAC services, and a potential customer responds to your ad by filling out a lead capture form, you've generated a lead for your HVAC service. Lead generation is a function of optimizing your marketing, since marketing spend should drive the number of leads you generate.

2. Conversion Rate

This is the percentage of leads that become paying customers. Whereas leads measure your marketing effectiveness, conversion rate measures your sales effectiveness. This ‘part’ drives revenue because the more leads you can convert to customers, the greater the sales you can create from your marketing efforts. Let’s say that your HVAC business had 10 leads last week. If you were able to convert 2 of those 10 leads into a paying customer, then you produced a 20% conversion rate. (2 customers / 10 leads = 20% conversion rate.)

3. Retention Rate

This is the percentage of customers who continue to buy your product or service (over a given time period, e.g. month/quarter/year) after the initial sale. This ‘part’ drives revenue because additional sales from existing customers increases revenue. Let’s say you had 1,000 customers who purchased prior to December 31st of last year. If you were able to get just 5% of those customers to come back and purchase this year, you would have 50 customers that already know, like and trust you that will spend money with you this year. Now, imagine that you were able to increase both Purchase Frequency Rate (explained below) and Retention Rate? You will see a major increase in revenue!

4. Purchase Frequency Rate

This is the number of times a customer purchases from you over a given period (e.g. month/quarter/year). This ‘part’ drives revenue because the more times you can get a customer to buy your product or service, the more revenue will increase. You can dramatically improve profit by getting existing customers to buy again. Not only will you be earning more from each customer (increasing their "lifetime customer value"), you'll also avoid having to spend additional marketing dollars to produce these sales (lowering your average customer acquisition cost). In other words, if the only thing you did to drive new sales was to get more existing customers to buy again, you'll increase your revenue without having to spend money on customer acquisition.

5. Average Transaction Value

This is the average value of every sale. This ‘part’ drives revenue because the more you can get a customer to spend per transaction, the more revenue will increase (without having to generate more sales). Let’s say that in your HVAC business, the average value is $500. By improving the average transaction value to, say, $600, you will increase revenue by 20% ($600 - $500 = $100 / $500 = 20% increase) without having to make a single additional sale!

The Revenue Formula

"Parts" 1-5 drive revenue because they all add up to revenue according to this formula (where the 5 parts are shown in light blue):

          Leads

x       Conversion Rate

=       New Customers That Buy This Period (e.g. Month/Quarter/Year)


           Existing Customers

x        Retention Rate

=        Existing Customers That Buy This Period


           New Customers That Purchase This Period

+        Existing Customers That Purchase This Period

=        Total Customers That Buy This Period


           Total Customers That Purchase This Period

x         Purchase Frequency Rate

=        Total Sales Transactions


           Total Sales Transactions

x         Average Transaction Value

=        Revenue

From the above formula, it's easy to see how improving one or more of the revenue ‘parts’ will drive increases in revenue. 

Imagine if you improve all five revenue drivers... You’ll see a dramatic increase in revenue!

Now, let's cover the 5 profit drivers.

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Parts 6-10: Profit Drivers

6. Cost of Good or Services (as a % of revenue)

This is how much it costs you to provide the products or services for each sales transaction, and is measured as a percentage of revenue. The Cost of Goods should include all of the direct costs needed to deliver the end product or service to your customer. This ‘part’ drives profit because the lower you can get your Cost of Goods (as a percentage of revenue), the higher your gross profit will be. Using our HVAC business example, let’s say that you install a new air conditioning system in a customer’s home. Let’s also say that you charge your customer $1,000, but your material cost (from your supplier) is $600. Plus, you incurred $200 in direct labor from someone on your team to install the system in your customer’s home. This means your total direct cost of the installation is $800, resulting in Cost of Goods (as a percentage of revenue) of 80%. ($800 cost / $1,000 revenue = 80% Cost of Goods.) The goal, of course, is to get this percentage as low as possible.

7. Marketing Expense (as a % of revenue)

This is the total cost of marketing measured as a percentage of revenue. This ‘part’ drives profit because every dollar you spend on marketing should have a direct correlation to an increase in revenue. If that happens, you’ll maintain a low Marketing Expense (as a percentage of revenue) relative to sales, thus improving net profit. If, for example, your total marketing expenses in your HVAC business last year totaled $20,000, and your total revenue last year was $100,000, then your total marketing expense (as a percentage of revenue) was 20% ($20,000 marketing expenses / $100,000 revenue = 20% Marketing Expense).

8. Payroll Expense

This is the total amount of payroll not already included in Cost of Goods. This ‘part’ drives profit because every dollar you spend on payroll should have a direct correlation to an increase in profit. In other words, every employee on your team should either assist in improving revenue or reducing expenses (or both), thus improving profit. Let’s say that in your HVAC business you have the following people on payroll: 

• Office Manager (@ $60,000 per year) 

• Customer Service/Order Taker (@ $40,000 per year) 

• One Master Technician (@ $90,000 per year) 

• Three Technicians (@ $60,000 per year each) 

Thus your total annual payroll is $250,000, plus related taxes and employer expenses (e.g., benefits), minus any direct labor that was already recorded in Cost of Goods (related to direct labor, in this case, your technicians). Let’s say that 80% of your technicians' payroll were already recorded in Cost of Goods. That means that only 20% of the One Master Technician and Three Technicians’ payroll should be included in Payroll Expenses.

9. Overhead Expenses

This is all of the operating expenses that are incurred that are not already included in Cost of Goods, Marketing Expense and Payroll Expense. This ‘part’ drives profit because every expenditure in your business should provide a ‘return on investment’. If an expense does correlate to a return, then it shouldn't be incurred. Examples of typical operating expenses are rent, insurance, and office supplies.

10. Other Income/Expenses

This is the total of all income and expenses that your business incurs that are unrelated to your company's core business.  For example, cash received from an insurance payout, or interest income earned on an investment. Since these income streams are not unrelated to your company's core business, they would be recorded as “Other Income”.  An example of an “Other Expense” transaction could be the “writing off” of obsolete inventory.

The Profit Formula

"Parts" 1-5 drive revenue, and Parts 1-10 drive profit according to this formula (where the parts are shown in light blue):

          Revenue (using Parts 1-5)

x       Cost of Goods/Services

=       Gross Profit


           Gross Profit

-         Marketing Expense

-         Payroll Expense

-         Overhead Expenses

=        Net Profit from Operations


           Net Profit from Operations

+        Other Income

-         Other Expense

=        Net Profit

From the above formula, you can clearly see how improving one or more of the  ‘parts’ will drive increases in profit. 

Again, imagine if you improve all 10 drivers... You’ll see a dramatic increase in your bottom line!

Lastly, let's cover the 6 cash flow drivers:

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Parts 11-16: Cash Flow Drivers

11. Days Sales Outstanding

This is the number of days it takes to collect cash from customers. This ‘part’ is a key cash flow driver because the longer it takes for you to collect from customers (i.e. convert sales to cash), the longer you are without cash flow. Plus, during the period in which you're waiting to collect cash from customers, you're typically also incurring expenses (e.g., Cost of Goods) to service the customer, further constraining your available cash. Let’s say that in your HVAC company, you sold a $1,000 air conditioner on credit (for example, you agreed to let your customer pay for it in three months). Essentially, you are extending 90-day credit terms to your customer, and since it'll take you 90 days to collect, your Days Sales Outstanding is 90 days. Ideally, you want this number to be as low as possible (without sacrificing sales) so that you have access to the cash sooner. 

12. Days Inventory Outstanding

This is the number of days it takes for you to sell through your inventory, on average. This ‘part’ drives cash flow because the faster you sell your inventory (i.e. generate sales), that faster you can convert inventory to cash (i.e. when you collect sales).  Clearly, on the flip side, the longer it takes for you to sell through your inventory, the longer you are without cash flow. You purchased inventory with cash and, until you sell it, you are without cash. The cash is, figuratively, sitting on your shelves. If you purchased, let’s say, $10,000 worth of inventory to stock in hopes of selling to customers and it takes, on average, 120 days to sell through that inventory, then your Days Inventory Outstanding is 120 days. Ideally, you want this number to be as low as possible (without creating stock shortages and therefore losing sales) so that you have access to cash as quickly as you can.

13. Sale or Purchase of Assets

An asset is something that your business owns that contains future economic value, such as a truck or a machine (used to operate the business and generate a return). When you sell it, you receive cash. Conversely, when you purchase an asset, it will decrease cash flow (unless you use debt to finance it). This ‘part’ drives positive cash flow (i.e. cash increases) when you sell an asset, and drives negative cash flow (i.e. cash decreases) when you buy an asset.

14. Days Payables Outstanding

This is the number of days it takes for you to pay your suppliers. This ‘part’ drives cash flow because the longer it takes for you to pay suppliers, the more you get to hold on to your cash. Let’s say that it takes you 30 days to pay suppliers for a recent job. You could collect cash from your customer prior to having to pay your costs to service the customer. For example, if it takes you 20 days to get paid by your customer, and you pay your supplier in 30 days, then you have access to excess cash for 10 days that can be used in other ways. Ideally, you want this number to be as high as possible, without sacrificing good relations with your vendors. (Remember, your suppliers are your business partners, and they want to get paid in a timely manner as well. Not to mention, many suppliers provide discounts to their customers for paying early.)

15. Using or Paying Down Debt

Debt financing is when you borrow money to fund your business. This money, of course, must be paid back to the lender. Debt often comes in the form of bank loans, credit cards, selling ownership in your business (i.e. stock), or borrowing from friends or family, to name the most common sources. This ‘part’ drives positive cash flow (i.e. increases cash) when you originate debt, and drives negative cash flow (i.e. decreases cash) when you repay the debt. Debt can be used to improve the financial health of your business only if you’re using it to purchase something that will generate a return on investment (ROI). Before using debt, carefully assess if what you are planning to purchase with it will actually generate a return. For example, if you purchase a machine for $50,000, you should be confident that the machine will provide at least $50,001 in (present value) cash flow over the life of the machine. Of course, the higher the return the better.

16. Owner Investments or Distributions

Owner investments reflect cash that business owners invest, from personal funds, in the business. Owner Distributions, conversely, are cash disbursements to business owners who wish to take money out of the business for personal use (e.g. distribution of profits as personal income). The idea, of course, is that any investments that are invested by the owner(s) will provide a ‘return on investment’. This ‘part’ drives cash flow because investments are direct infusions of cash (i.e. cash increases), and distributions are direct outlays of cash (i.e. cash decreases). Of course, the main objective of a business is to provide a return for its owners in the form of ‘owner distributions’, ideally while still allowing the company to operate with healthy remaining cash flow.

The Cash Flow Formula

"Parts" 1-5 drive revenue, Parts 1-10 drive profit, and Parts 1-16 drive cash flow according to this formula (where the parts are shown in light blue):

                Profit (using Parts 1-10)

+ / -       Days Sales Outstanding*

+ / -       Days Inventory Outstanding*

+ / -       Sale or Purchase of Assets*

+ / -       Days Payables Outstanding*

+ / -       Using or Paying Down Debt*

+ / -       Owner Investments or Distributions*

=             Cash Flow

*Each of the Cash Flow parts have a + or – because they can impact cash flow either positively or negatively. For example, if you use debt it would increase cash flow, if you pay down debt, it would decrease cash flow. 

From the above formula, you can clearly see how improving one or more of the  ‘parts’ will drive increases in cash flow. 

I'll say it one last time: imagine if you improve all 16 drivers... You’ll see a dramatic increase in your positive cash flow!

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Next Step: Get Help With This

To have a growing and successful business, you must turn it into a money-making machine using the 16 parts delineated above. 

However, although making money is the point of your business… it’s not easy to do. 

It’s not easy because most business owners, while they are great at doing what their business does, are not necessarily numbers people. 

And…money/cash flow, and the 16 parts of a business are all numbers. 

Most business owners understand they need to know their numbers, but they’re not exactly excited about poring over data to understand their parts and determine which ones need improving. 

And that's precisely where I can help... 

I am a financial professional, former corporate finance executive and entrepreneur who works exclusively with small-to-medium sized business owners, just like you, through my business advisory company, Clear Path CFO. 

I do one thing really well: I transform businesses into money-making machines

And, I’m passionate about this. 

So if YOU could use help on transforming your business into a money-making machine, let’s get on a ‘Right Fit’ call. 

We’ll jump on a 20-minute Zoom call and learn more about each other to ensure that I’m right for you, and you’re right for me. If we are in fact a good fit for each other, then I’ll then share with you exactly what I’ll do for you, how I’ll do it, and my fee.  

(I will also promise that if my fee doesn't pay for itself multiple times over from the improvements to your business, then I'll happily fire myself.)

Then, you decide if this is right for you. 

To schedule a Right Fit call, simply click the button below:

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