The Profitability Paradox

A SIMPLE MINDSET SHIFT CAN BE A GAME CHANGER FOR YOUR BUSINESSES PROFITABILITY.

When it comes to measuring business success, many business owners tend to focus primarily on their income as opposed to having a profit focus. Believing that the more money they bring in, the more successful they are. However, this narrow focus can lead to a profitability paradox: the more you focus on income, the less profitable your business can become.

As a business advisor, I’ve worked with many business owners who struggle to balance these two critical metrics  –  profit versus revenue. Make no mistake getting this balance right will determine the financial health of your business going forward. 

Many are more skewed to an income or revenue mindset and in my experience, changing that focus to a profit-focused one is key to reliable profit growth. [Note: We use the terms ‘income’ and ‘revenue’ interchangeably]

The thing is that the difference between focusing on revenue versus profit can often be subtle, but the difference in outcomes you achieve can be quite profound.

In this post, we’ll explore:

  • Why focusing on profit can actually increase your revenue. 

We will look at 

  • The difference between income and profit, and 
  • Why profit should be the primary focus for any business looking to achieve sustainable growth. 

We’ll also examine:

  • How the profitability paradox can impact your business, and share some strategies you can implement to shift your focus toward profit and achieve better outcomes.

Revenue Versus Profit

Revenue versus Profit?What’s the difference? And why does it even matter?

Revenue, also called income, is the amount of money brought into the company, typically by selling goods, products, or services. 

Often revenue is equated to profit, but this correlation is flawed. Because not all revenue is profitable…. Some of it will even cost your business money.

For service-based business ensuring their revenue is as profitable as possible is critical to their long-term success. And that may require knocking back work or culling their current clients to do this.

According to a study by McKinsey, Companies that prioritise profit are more likely to achieve long-term success than companies that prioritise revenue growth. 

The study found that among companies that achieved more than 5% annual profit growth over ten years, 81% of them prioritised profit over revenue growth.


Profit Formulas

After talking to many business owners and managers over the years about their approach to profit, I see commonalities in ‘profit formulas’ that most of them use in some form or other.

They tend to fall into 4 main categories…and all are based on a revenue AKA  Income focus…

Profit Formula #1

Income increase + cost cutting =  more profit

The premise is that Increasing the amount of income and being very frugal on expenditure theoretically leads to an increase in profit 

This method is typically a reactive response to circumstances, however, some businesses tend to look at every decision from this perspective. But it’s only possible to cut costs so far and there is a point where without extra investment or spending there is a limit to the increases in income possible.

Profit Formula #2

Income increase @ fixed profit %  more profit

The premise behind this formula is the assumption that an increase in income will result in a linear increase in profit particularly if costs remain consistant as the income increases.

However, this model is relying on all services that are sold to have the same cost of sale and delivery with a consistent rate. While this is easier to achieve in a pure product-based environment,  consistency is more difficult to achieve across a service business where clients have consistently different requirements and assignments/projects vary in nature, size, and the skill set required to complete them.

Profit Formula #3

Income + target/budget increase = more profit.

This formula is calculated based on last year’s income numbers to which a set growth target % or $ increases is added. 

For example…A firm had $3.5m in sales from 40 one-off buying clients last year. To grow profit, the firm would try and increase the number of sales to 45 this year.  Assuming that it is possible to match [and increase] the sales made last year.

However, this relies on there being the same amount of buyers (how big is the buying pool potential) and doesn’t take into account competitors or many other potential areas of influence. 

This model doesn’t always take into consideration that the extra 5 sales may be at a lesser profit margin due to increased costs or other unforeseen factors. From experience often businesses don’t have a clear path to getting the 45 sales or a clear understanding of additional costs that may be required to achieve them

Profit Formula #4

Low-Profit Margins + Higher Volume = More Profit.  

By selling a lot more or increasing my income, the presumption is profit should go up, but in reality, this isn’t always the case. 

The thinking behind this model is ‘if I currently make a profit from the margin that I sell my goods or services at now, then selling a lot more will automatically result in an increase in my overall profit.’ 

While this can be the case in most circumstances, the cost to achieve that profit will vary as the volume goes up…in terms of extra marketing, more staff, etc.  

We’ve seen small increases in volume lead to a large increase in cost because the business had to push into new supply sources, and the added expenses associated with this ended up being much higher than anticipated

…All while being considerate of other business pressures. 

These outcomes flow from the CRO’s revenue focus, experience, ongoing research, and a proven methodology that provides flexibility to adapt to a variety of situations.

In short, if it’s revenue-related…your business will benefit from a CRO’s perspective. 

An Income Focus Limits Your Profit Opportunities

While most of these formulas may have worked in the past for many organisations, they increasingly fall flat in today’s modern fluxing work and financial environment. 

Because they all focus on and rely on the business to acquire more income to increase their profit bottom line… without always drilling down to understand how profitable that income actually is.

The results you can get from an income focus come with some fundamental limitations:

  • They are limited by the amount of extra income the business can sustainably service and grow by;
  • The impact of current and future market pressures, for example, staffing, supply chain, logistics;
  • Finite cost-cutting options before your product/ service is impacted or can operate sustainably;
  • Lack of focus on new or diversified ways to increase profit; 
  • Limited future vision and services development; 
  • Staff incentives and goals can get every dollar in, which can come at the cost of clients and profits.

The Profitability Paradox

Chasing revenue, any revenue can actually limit your profitability and hold your business back …. And this is the paradox of profitability. 

As we mentioned before the problem with an income focus is that not all revenue is profitable or sustainable.

Short-term perceived income gains can have negative consequences further on. Being conscious of this and mitigating it is key.

Some income is more profitable than other income…its easy to see that change in mindset and focus can be of benefit..

 The key to having a profit focus is to ensure that your revenue is as profitable as possible.

A Profit Focus Can Actually Decrease Your Gross Revenue.

If we take a step back and ask – ‘What do businesses really want?’ … and the answer is unanimously more profit…(and sometimes a bit of ego fulfillment)

According to a study by Bain + Company  companies that prioritise profitability are more likely to achieve sustainable growth. 

The study found that among companies that achieved more than 10% annual revenue growth over five years, those that prioritised profitability had a 70% success rate in sustaining that growth, compared to only 56% for companies that prioritised revenue growth.

This highlights the importance of prioritising profitability in achieving long-term success and sustainability. By focusing on profitability, businesses can generate higher returns for themselves and for investors, achieve sustainable growth, and maximise their profits.

More Clients Don’t Always Equal More Profits

As a business owner, particularly in a service-based business, It may seem the more clients you have, the better. But if some of those clients use up a lot of your resources AKA time and staff for starters and make your job more difficult.

If certain clients become a problem, they may hurt your business in the long run and stunt your growth. To fulfill their contract, you may have to work overtime and waste valuable hours trying to please them. In the end, these clients could lose you money, especially if they have a low turnover or dispute payments. Plus, the extra work they cause you may reduce the quality of your services for other clients. 

By analysing the profitability of income, service-based businesses can make informed decisions about which projects to take on and ensure that they are allocating their resources effectively to maximise their profits.

To reliably grow your profits – it’s critical to change your mindset from a income-based one to a profit-focused one..

To reliably grow your profits - it’s critical to change your mindset from an income-based one to a profit-focused one.

BTW – when we talk about a profit mindset we’re not referring to a scenario where profit is the driving force of the business at any cost….Eg cutting corners to reduce costs, resulting in lower quality products or services. 

We’re referring to a scenario where the question asked is 

‘What is the actual outcome you want from your business and what opportunity does that present to you? ‘

Hopefully, by now, you’re starting to appreciate the subtleties between the two approaches and what this could mean for your business and your bottom line…

Changing Your Focus From Income To Profit

Changing your focus, requires you to take a step back and first ask the question: 

‘What if profit was my business’s only focus, what would I do differently?’

Then set some profit goals, and ask…

‘What would my business look like now and what could it look like in 5 years’ time?’

A brainstorming session  – complete with a whiteboard is a great approach for this one…

Really let your creative juices flow and don’t be afraid to explore every avenue…as with any brainstorming exercise, nothing is off the table…

We find our clients are often pleasantly surprised when doing this exercise, and see what it will reveal.

There is often a lot there to explore that you may not have on your radar or be considering at present. 

Once you’ve done the brainstorming exercise, look at all aspects of your business and ask

‘Does this work towards my profit goals?

If they don’t, it might mean…

  • Getting rid of unprofitable clients,
  • Assessing your existing client base to see which ones work for you and which ones don’t…or
  • Clearly defining the inclusions and exclusions in a service so that scope creep is minimised.
  • Look at who you are targeting and talking to
  • Asking if you’re actually utilising all the resources that sit within your business optimally…

All these things play a critical role in whether or not your revenue is even profitable…

Significant Change Isn’t A Given

Shifting your attention towards profitability doesn’t necessarily require a significant transformation for your business, apart from a positive effect on your financial outcomes of course. It often simply involve making some minor adjustments or removing certain pressure points that currently exist, or that you believe are beyond your control.

We know from our own experiences that there are 14 plus key areas that influence every business’s revenue and profit and there are over 270 different levers most businesses can pull to change their profitable revenue outcome.

So there can be many possible options to open many new profit opportunities often without having to do much more in order to win them.

So ask yourself: ‘Which you choose… a 10% increase in net profit or a 21% increase in gross income?’

Conclusion

The profitability paradox is real…and it’s unnecessarily impacting PS firm’s bottom line. To achieve long-term success, businesses must prioritise profit over income. By shifting the focus to profit, businesses can identify inefficiencies and opportunities for growth, and make strategic decisions that will ultimately lead to increased income… and profit growth.

Profit is not a dirty word, its a critical component of sustainable growth. By breaking free from the income trap and embracing the profitability paradox, businesses can achieve long-term success and thrive in today’s competitive market. 

Switching your focus to profit doesn’t necessarily mean a big change for your business other than a positive change to your bottom line… It may only require a few tweaks or you may decide to take away some of the pressure points that currently exist, or you perceive are out of your control.

But if you want consistent profit growth in your business so you can achieve your business goals focusing on maximising your profitable income is the best place to start.

Need Help?  

FYI – We regularly run Facilitation Sessions, as part of our Revenue Snapshot and The CRO Experience services where we cover this very topic to help owners and managers come up with a range of new opportunities that currently exist but the benefits are not currently being realised. 

***Originally Published On Linkedin ***

If Profitable Revenue Growth is a priority for your business…

Whenever You’re Ready, There Are 3 Ways We Can Help You:

  1. If you want direction RIGHT NOW that you can implement into your business…

Our Revenue Snapshot  is a quickstart action plan that helps professional services businesses quickly understand the revenue blockages, identify where profit opportunities lie, and highlight priority action steps to help you achieve your profit goals.

  1. If you want to grow your profitable revenue…

Our Profit Growth Advisory Service, The CRO Experience shows you how to build a custom long-term revenue engine for your business…solve your revenue challenges so you can consistently grow your profits, achieve your profit goals, and be in a position to successfully handle whatever the market throws at you.

3. If You Want To Get Your Managers On Board To Contribute To Revenue Generation…

The Rainmaker Workshops are Interactive + Practical Profit + Revenue Growth Workshops aimed at making revenue a company-wide responsibility. 

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