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Launching and running a business can be overwhelming. It's easy to get caught up in day-to-day tasks — not to mention, many people start their own business without formal financial training. On the surface, it might look like you're making plenty of sales, but you might not necessarily be profitable. Here's how to know if your business is profitable and what to do if it's not.
The importance of profitability and how to calculate it
Profitability is the amount of money that a business earns — it's the yield or financial gain. If a business isn't profitable, it's losing money.
A simple profitability formula looks like this: Revenue - Expenses = Profit
To determine your own business's profitability, you'll need to gather all of your financial information. Bring all of your receipts for expenses together and total them. Total your revenue over the same time frame that the receipts cover, then subtract the expenses from the revenue. If you have a positive number, you're profitable. If it's negative, you're spending more to run your business than you're earning.
There are more complex ways to determine profitability, which look at gross profit if you sell physical products: Sales Revenue - Cost of Goods Sold = Gross Profit
You may also find that the number you're left with, while not negative, is smaller than it should be. Being barely profitable is no way to run a business either. If you find that you get less than desirable results, it's time to make a change.
Related: 5 Easy Ways to Increase Your Profit Without Bringing in a Sale
Changing profitability
Turning your profitability around might seem impossible — but it's not unheard of.
Consider Best Buy. From 2013 to 2017, the electronics giant saw consistently declining sales for four of the five years. Comparable sales grew less than 1 percent or were negative. Everyone, including the CEO, thought the company was dying. But the company has seen increasing sales each year since 2017. How?
Best Buy built out its omnichannel capabilities, focused on services, kept down prices and boosted customer service by investing in its employees. The company looked at areas where it could cut costs — since 2013, it's saved $2 billion. It also sought out a partnership with Apple for repair services and broke into the health industry.
No matter how small your business is, you can learn from what Best Buy did to turn around its profitability.
Related: 9 Ways to Turn Human Resources Into a Profit Driver
Here are a few key factors that led to its success:
● Analyze expenses. Sometimes, as sales increase, your operating expenses also increase. You might have had to invest your profits into your business to accommodate growth. Look for areas you can cut expenses.
● Focus on your best-selling products or highest-paying clients. If you sell products, look for your highest-profit items. Can you market those to sell more? Or, look at what items are most popular — how can you sell more? If you're a service provider, analyze your clients. Which ones pay the most and take up the least amount of your time? Can you offer them additional services or find more clients like them? Some clients may be abusing your time and costing you money.
● Listen to customer feedback. Is your customer asking if you offer a certain service or product? What are they saying on social media? You should practice social listening — keeping tabs on what people are saying about your industry. This information can help you expand into other areas.
● Reinvest in your business and employees. When your profitability is down, this might be the last thing you want to do. But, if you've cut costs, you should have some money to reinvest back into the business. Investing in employees will make them happier to work for you, encouraging them to do better quality work. Whether you're a service provider or sell a physical product, you should always be looking for ways to make your offering better. Reinvest in your business to address any areas where your offering could be better.
● Maintain your finances. Especially as a small business or a side hustle, it's easy to put off calculating expenses and profitability. Get yourself in the habit of doing it regularly and hold yourself accountable. The more consistent you are with managing finances and setting financial goals, the better you'll do.
Related: Investing in Your Employees Is the Smartest Business Decision
Finding out your business isn't profitable is a hard pill to swallow. The importance of profitability is clear when things aren't going well — you can't run a business on negative dollars. So, do the calculations and readjust. Cut costs where you can, adjust your offering and reinvest in the key areas that can drive your business.
