Targeting True Profit Centers

William B. Johnson
Co-Founder & President
Alden Systems, Inc.

A Step by Step Guide to Finding the Main Profit Centers

Don t work so hard! Determining the main profit centers for your company shouldn t be a difficult task. Just look at your revenue and expenses by product line, or project, right? Wrong! Even if you understand the direct revenue and expenses by product line, it s often really difficult to understand the true profit for each profit center. The reason for this is that real expenses (when you include management time, effort and emotion) are not reflected in your books.

In my company, the management team conducts a formal review of each project at least once per quarter. This review focuses on which projects are making their planned margins. We also talk about how we feel about each project. Often we are surprised to discover that our most difficult projects are the ones making the most money. It is exactly those projects that end up with a target on them.

The best projects are those that take little or no oversight and management time, and still yield the margins you expected when you started them. So, how do you do it for your company?

Before you think about maximizing your profit centers, you have to be stable. If you only have one product, or are working on just one project, put this book down immediately. You don t need to figure out how to drive more profits. You should first gain equilibrium. I need to have at least three projects spread among three customers to feel level. If you are a product or service based business, the first step is making sure that you have at least three projects or products.

I like to golf, and the golf pros have all kinds of little visualizations that you can use to improve your swing. I ve often heard : Bring your club back like you were trying to hit a catcher s mitt. You can use similar visualization techniques to help in finding this equilibrium. For this rule of three projects or products, try to imagine a stool. With one or two legs, you are going to work pretty hard. When you get that third leg, you are a lot more stable, and you don t have to work as hard.

Once your business obtains this rule of three projects or products, this enables the company to get busy making more money. First, get a handle on each product line. You only need five key numbers to evaluate each product: Revenue & Expense for this period, Revenue & Expense for the last period and your planned margin for this product line.

The planned margin will vary for each product line, but don t let this be a major source of concern. My view is that it is not very important in the end. Of course you want to make as much money as you can, but who is to say what the appropriate margin is? Grocery stores routinely make as little as 2-3% margins. On the other hand, we have all heard of defense contractors selling toilet seats for thousands of dollars during the 1980s. The important thing is to think about what you expect to make before you accept the job. Write it down, whether you put it in a spreadsheet or use a sticky note, but whatever you do, make sure you can put your hands on it down the road.

Next, on a regular basis, review the five numbers for each product. Look at the change in revenue and ask yourself if you are stable, or if you see a wide variation. If there are wide fluctuations ”if you are up one month and down the next ”you should probably think of strategies for leveling your revenue. Converting your software sales from big-bang up front to slow-burn long- term maintenance contracts is one method for leveling out your revenue and becoming more stable.

The next step is to examine your expenses. Depending on the amount of variable expenses for each product line, this might track exactly with the revenue. If so, give yourself three points. But, as is often the case, you will see wide variations in your expenses that are out of line with your revenues . This is an area to which you should pay particular attention. What is driving the expenses? If you are booking expenses that are not directly associated with making money today, you might have an opportunity to reduce expenses, and thus increase profits.

Finally, look at the margin for this period compared to the planned margin. If you are not on track, figure out why not. After analyzing this information, it is critical to make a conscious decision regarding your assumptions. Did you plan wrong, or are you not managing the business? Either way, you can learn something. If you planned wrong, think about what has changed or what assumption went awry. If you are not managing the business, then consider this your wake up call.