Business success doesn’t happen overnight. Sure, some small business owners have a can’t-miss business idea, a wide-open market and many eager customers waiting to buy what they sell – but most businesses need time to become profitable. For example, as described in this article, many well-known and successful companies did not make a profit for their first five years in business.
Many prospective small business owners don’t necessarily understand that they should expect to lose money in the beginning. It’s not unusual for businesses to struggle at first before they achieve profitability – and business owners need to plan for some uncertainty and difficulty in the early stages of growth.
Here are a few key concepts to keep in mind if you are thinking of starting a new business and worrying about profitability – or if you are running an existing new business that is still not making a profit.
Why Many Businesses Don’t Make a Profit at First
Some of the most prominent news stories about unprofitable businesses are often about innovative technology startups that are trying to create a new product or even an entirely new market or business model. Often when companies are doing something that is truly innovative, it takes a little while for the market to catch up with the innovation – sometimes customers don’t know what they want to buy until it’s available, and the highest-risk, highest-reward startups are in the business of giving people what they want BEFORE they “know” that they want it.
However, even if your business is not a world-changing startup, there are still several common reasons why your company might not turn a profit right away:
- Startup costs: Business expenses are a necessary (and tax-deductible!) part of running a company, but some new business owners make the mistake of spending too much money on unnecessary expenses. Try to run your business on a shoestring budget – “bootstrap it” as much as possible. You can always get business loans to help cover your startup expenses, but try to make sure that your startup costs are justified by your eventual business revenue.
- Lack of a business plan: It’s surprising, but lots of small business owners do not have a good, detailed business plan to show how their company is going to operate, which market(s) it will serve, which customers it will sell to and how it will make money. Your business plan is your company’s road map to success – and without a map, you can get lost very quickly.
- Lack of market research: On a related note to the business plan, your company needs to have a sense of who your target customers are and what prices you can charge to be competitive and profitable. Do your homework on your industry and market – what prices do your competitors charge? How much profit can you make on each sale? What are your prospective customers saying about your business and about your competitors? In what ways are people unhappy or dissatisfied with other companies in your industry, and how can you swoop in and steal these customers away with better service or better quality? If you haven’t already asked and answered these questions, your business is at risk of losing money.
What it Takes to Quickly Become Profitable
One great example of how to quickly build a profitable small business is in this story about Scott Weiner, an Android phone enthusiast who decided to start a small business selling Android phone cases. His story illustrates a few key principles of how to quickly achieve profitability:
- Do your research: Before you even start selling, figure out how much your competitors are charging, and figure out the pricing trends for your product. You don’t need to win every customer in the world – you just need to find a comfortable and profitable niche in the market where your company can compete and thrive.
- Establish proof of concept: It doesn’t hurt to start small. Scott Weiner started his business by selling 750 Android cases for $11.50 each – and his costs were so low he knew he could make a profit even if he had to sell the cases for only $8 each.
- Outsource the mundane tasks: With services like Fulfillment by Amazon and online tools, it’s easier than ever for small business sellers to outsource the mundane work and focus more on what they do best. Outsourcing can help you be more efficient and become profitable faster.
Most companies are not going to become profitable from Day One, but it can be done with careful research, planning and smart pricing to put your business in position to succeed on a small scale, and then grow.
How to Do Profit Forecasting
One way to estimate the future profitability of your business and figure out how soon your company will become profitable is to do a profit projection, or Pro Forma Income Statement. This consists of a few key components:
- Sales Forecast: This is a simple estimate of the sales you expect your business to earn, on a monthly basis, for the next 1-3 years. This blog post from the Small Business Administration offers some tips on how to do a sales forecast.
- Cost of Goods Sold or Value of Services: To calculate profit, you need to subtract your costs from your sales – so this part of the profit forecast needs to include the cost of the goods (or the estimated “value” of the services) that you sell.
- Other Expenses: Figure out the total of all of your other business expenses, including rent, employee wages, insurance, utilities, marketing expenses and other fixed costs and tax-deductible business expenses.
- Gross Profit Estimate: Now you can track your expected sales for a given period of time (month-by-month or for a full year) and then subtract your costs and business expenses to calculate your gross profit.
To see profit forecasting in action and calculate your business’ expected timeline for profitability, check out this free profit forecasting tool offered by SCORE.
If your business is in its early stages of growth, lack of profits is not a reason to panic – just make sure your company has a smart business plan in place, that your business expenses are reasonable and focused on helping your company grow and that your sales are trending in the right direction. Ideally, even if your company is not currently making a profit, you should be able to see light at the end of the tunnel by using profit forecasting methods to figure out exactly how soon you can expect to be out of the red and in the black.