Trent: Hey, everyone welcome back to another episode of Bright Ideas Podcasts as always, I’m your host Trent Dyrsmid and my job here is to shine a light on the tools the tactics and the strategies that are working in e-Commerce today and I always do that by inviting experts onto the show to share with you and with me exactly what is working for them in their business today.
And this episode is no different but today’s topic is a little bit different. We’re not going to talk about something that’s necessarily e-Commerce specific, but we are going to talk about something called ‘Profit First’ which is a financial management strategy practice I’m not sure what the right word to describe it is but my guest while introducing a moment Will is something that we use in our own business and I highly recommend.
So, with the stage set Cyndi Thomas you so much for making some time to come and be on the show. Maybe let’s start in your own words, who are you and what do you do?
John: Okay, thank you for having me Trent. My name is Cyndi Thomason and I’m the founder of an accounting firm called ‘Books Keep’. We are mastery level profit first professionals, and we work with our e-Commerce clients to help them get a handle on their accounting as well as their cash flow and Profit First is a cash flow methodology is the way we describe it and it helps our clients just be prepared from a cash perspective for whatever the business might throw coming your way.
Trent: All right, so let’s assume that you and I are in the coffee shop, we’re in the virtual coffee shop, and unlike coffee I have water. But let’s just assume that I have no idea what Profit First is and I kind of want to know. So, maybe let’s start there like what the heck is it in layman’s terms and why did you make it a thing in your business?
John: Well, Profit First is the title of a book by Mike McAlary. He wrote it based on some challenging times that he had in managing his businesses. He had a couple of different businesses that developed and performed very well but he saw that always, cash flow was a struggle and through trying to help small businesses, he kind of got himself in a mess with not having the cash to operate.
And from that place, he had to figure out a way that he could operate and help other small businesses operate. Having more intention and more understanding of how the cash actually moves through their business. The book describes kind of one of the primary tenets of Profit First is understanding Parkinson’s Law. And Parkinson’s Law is an economic theory, economic law that was developed by Northcote Parkinson back in the 1950s and it’s a really simple law that says you use what you got, and you use what you got in terms of whatever your resources. If you’ve got cash, if you’ve got time; we tend to fill up and use up whatever is available to us, and if we have less of something we conserve.
And so, the example that Mike uses in the book and that I think we can all relate to is a tube of toothpaste. And when you’re sitting there with a full tube of toothpaste it’s just real easy to pull out of a long bead onto your toothbrush. But if you have just a little bit left, you’ve got to make it last till you get to the store. We conserve and we put just a lot a little dollop of tooth paste on our toothbrush and we make do with that. And the same thing holds true with our cash in our business looks like there’s a lot of money in our bank account. The wheels start turning and we start trying to think, “Okay, what can I do with all of this money? It’s time to get that new computer, or buy more inventory or launch that new product”
Those things just— we were never short of ideas of ways to spend the money but if you look at that cash that may be in your bank account and realize that it’s really pre-programmed for certain things, like part of it needs to go to pay you as a business owner. Part of it needs to go to pay you as someone who works in the business; part of it has to go to the government. And part of it is there to be you know inventory or operating expenses if we can get real intentional tension all about those different buckets of money. Then suddenly it doesn’t appear that we’ve got as much as maybe it looks like if it was all in one big bucket altogether.
Trent: So, if someone had asked me what profit first was, I’d like you to correct me when I’m wrong. I would have said to them we have money that is all for different purposes like you’ve just described. So Profit First. At its core tells me to put all of that money in different bank accounts so that I know for each role how much money I have on hand and this is something that we actively do.
So we have our credit looks at this like why do you have some accounts because we’ve got our profit and cold account, we’ve got our tax hold account, we’ve got our inventory account, we’ve got our OpEx account we’ve got our payroll account so at any point in time. When I look at these numbers every single week I know exactly what an inventory count I know exactly how much money is earmarked for each one of those things in my business. Is that a good way to describe Profit First?
John: Yeah, absolutely! And you know what you’re doing by having an account for profit for example, and it can account for your own payroll is your recognizing your value to the business and that’s another component of it too many times entrepreneurs think they don’t have to pay themselves, they’re going to reinvest back in the business, but we can’t sustain business like that for very long.
It takes a toll on us. It takes a toll on our family. So recognizing that a true business should operate from the perspective that it pays its most important employee and it should reward us for making that and taking that risk and reinvesting in our business those are fundamental things that should just be a part of the business equation and a bright light is shown on those things through the Profit First method.
Trent: Absolutely! So Cindy, in a minute, I’m going to ask you to tell us a story about one of your clients that was struggling before Profit First and how things have changed. Before we get to that, I just do want to bring a quick message from the sponsor of this particular episode. And it’s funny that we’re talking about cash flow and availability of cash because the sponsor for this episode is Payability. Have you ever found yourself in a situation where you’ve got the right product, you’ve got a great Amazon strategy, and all you need is the cash.
Well, I know that I have and so have many other people and that’s the problem that pay ability solves their a financing company on a mission to get e-Commerce sellers fast and flexible access to capital approval is based on your Amazon account health as and your Amazon performance so there’s no credit checks and you can get your money in less than 24hours. So, if you’re tired of banks not taking you seriously because you’re a small business and you sell online. And maybe they don’t understand even how that works. I would encourage you to go check out Payability and you can do that. brightideas.co/payability and when you do through that link, they will give you a $200 sign on bonus as well as some discounted fees. And again the url for that is brightideas.co/payability.
All right, so let’s talk about that particular client that was struggling and I’m sure you’ve had many but I know we talked about one in your pre-interview. So, tell us know without naming them a little bit of like kind of what industry or what do they do and then what were they struggling with and how did Profits First help them to navigate their way through those struggles.
John: Well, I can I can name him; he’s been very gracious with sharing his expertise, his stories told in my book. His name is Mark; He is in a digital nomad. He sells across fit equipment and he sells on Amazon and his own website. He called me back in December of 2015 and he was pretty frustrated. He was on his third book keeper that year and it’s the end of the year. He didn’t have numbers.
His busy time starts kind of like late in the year but first quarter is huge because every year resolutions we’re all gung ho, and he was really frustrated because he had had to place his order for inventory and he really didn’t know where his business stood. He didn’t know exactly what was going on with cash. He didn’t really know what level of inventory he had that he could have a good sense of that information.
And he was really concerned that you know if he didn’t order enough, during his busy season, the Chinese New Year where his manufacturing is, they shut down for a whole month. And so he had to place those orders well in advance and he said to me, “I feel like I’m flying blind, I feel like I can get every handle on every aspect of my business but this one”
And so I took that as a personal challenge. And I’m like, “Okay well, you’re not going to fly blind anymore” And so first we got his books in order because you really do have to understand from an accounting perspective what’s going on to analyze things effectively from Profit First.
So, we get its books in order and then we started with a basic Profit First installation. And for me that’s three accounts. And I know Mike in his book has you know recommends five but for my clients, I find that they really need to get a good handle on how things move and when you separate inventory out from the cash flow of your operating expenses, suddenly you’ve taken a lot of cash that looks available and may be available but it’s designated for a purpose like we talked about before.
So I’d like to get that working; and then once that’s working well then we expand to other accounts. So that’s what we did from Mark; we created a profit account, we created an inventory account and he of course already had an operating expense account. We worked with that for a few months after we had the hang of it. The bugs are worked out. We knew that we could reliably set aside from each Amazon pay out the money that we were going to need for inventory and OpEx. Then we expanded that and added things like an owner pay account and a tax account.
We continued to work together over the next year or two and talk about once a month about how this whole thing worked, and how he needed to understand what the numbers were telling him. What his bank accounts were now telling him because once you implement Profit First, you don’t have to look at your accounting system as much because we all kind of have a habit of logging on and looking at our bank account anyway. And so Profit First kind of works with that behavior that we already have. You can look at your bank account, “No, okay, I’m not going to get my Amazon pay out for another three days. Is my cash going to hold up till then in my office account or am I going to have to make a big inventory payment, have I got that money set aside?” So you start to get that rhythm just by handling your accounts on a regular routine basis.
Trent: I was going to say, I think for new entrepreneurs also it’s important to understand that oftentimes they’re going to look at their P/L and the P/L is very different than the cash flow statement. In some businesses, it’s even more different than it is in ours. But just because you’re P/L your profitable doesn’t mean you have enough cash to go another 3 days.
John: Exactly! And inventory is really a challenge for people to figure out because you know you buy it maybe a new product introduction and you pay an initial run, but sometimes you will have the cash out of that before you need to order the next run. And so just getting a handle of how that flow has to work is a challenge and being able to start to understand that by looking at your bank accounts this is what Profit First provides for you.
So Mark is still a client of ours, I don’t have his year to date numbers in front of me but I will tell you at the end of last year the owner pay was up like 500% profits were up twenty three percent from the year before. Every metric that we look at he is really performing well at and able to do that without having a tremendous debt load that he’s staying up at night worrying about.
Mark has found it so beneficial, last count I think he had 15 bank accounts. So he’s kind of gone off on steroids and he has he has accounts for like licensing, he has accounts for shipping, he has accounts for sales tax. Just many different accounts that he uses, and he knows what percent he puts into those account each month. So it’s really easy for somebody to say well what percent do you spend on advertising? He knows because he. That’s what the money he puts in there every month. And anyway he’s really a success story, I’m really proud to have him as a client.
Trent: Yep and I have to say that having that clarity is really refreshing as you don’t have to just look at that one account and see that big pile of money and wonder, “Well gosh, what should I use this for?” So from a psychological perspective, you know I know you talked a little bit about Parkinson’s Law before but why do you think this works so well?
John: Well, I think because it does work with our behavior, we’re programmed to look at things and decide how to use up those resources. So by splitting things into different bank accounts, we can start to see the purpose for them. So, I think just because that’s human behavior is one reason; another reason— another facet of Profit First is about getting in a rhythm not handling your money every day.
Now I do this— I think most of my clients do this we look at our bank accounts every day but we don’t go in and actually allocate the deposit from Amazon but every 2 weeks is a typical situation and we don’t pay our bills but every couple of weeks. And by getting yourself on a schedule for doing that, it takes the randomness out that happens when you touch your bills and your payments every day.
So if every day you go in there and you pay something you don’t ever really get the sense of how the flow is in your business; you won’t have that awareness of okay, my Amazon deposit is going to come in three days. Am I good for three days or not? Because if you catch it every day, you just don’t get that sense of rhythm in your business.
And another aspect of Profit First is ‘Rhythm’. Another component of it is called the primacy effect and in looking at first things first, profit account is always the first thing we allocate to because we know that we have to reward ourselves for being in business. Minutes owner pay and taxes. And then what’s left is our operating expenses. And so many people want to forgo setting aside money for themselves or end the government and put it all into running the business.
The challenge with that is, you’re kind of artificially propping up the business and you cannot long term sustainably operate without taking care of yourself and the government. So you may as well build that habit in from the very beginning and learn to operate with the funds that your business is generating because that’s the true measure. If you’re not having enough money to buy everything that you need and you think you truly need it, then maybe your margins are off and maybe your model is off. And that’s a really big red flag that we shouldn’t gloss over; we should pay attention to and get it right.
Trent: Yeah and I think that’s especially common with first time or newer entrepreneurs as they don’t pay themselves a paycheck and they look at their business and they go, “Oh look at how profitable it is” But they’re not accounting for what their market value is of their particular contribution to the business. And if they were to do that, they might see well that maybe this maybe it’s not such a good business or maybe I’m not running it the right way or I need to make some decisions about my margins or my expenditures or what have you.
Because when you’re properly accounting for your owner wage, and your own profits, to give you a return on your investment because at the end of the day, an owner we’re just an investor. That’s really what put that hat on and talk about it from those terms. And I know that I made many of those mistakes in my first business. I’ve been paying myself for years and I just lived off of drawers and debt and credit cards and every other thing and you kind of delude yourself into thinking that your business is in better shape than it is; which then impacts or impairs the decisions that you’re making, don’t you think?
John: It definitely does. And if people think that they’re getting ahead that way, but I’ve found that it’s just the opposite. What happens is if you’re not if you’re not operating efficiently and frugally and innovatively, somebody else will flee and so by putting that pressure on yourself you know all by yourself you know putting that on to the business, it sets you up with the right set of questions and concerns that you should be paying attention to.
Trent: In our pre-interview, you highlighted two accounts that you really wanted to make sure that we talked about and that was the dedicated inventory account as well as the profit account. I think we just kind of covered the importance of the profit accounts so maybe we don’t need to go down that rabbit hole again. But why inventory? Why is it so important to have like why is inventory separate from what have you?
John: Well, inventory really does have a different flow. Most people order batches of inventory in bigger quantities and then that has to work its way through. The sales cycle and then at some point you know you have to reorder. You may have terms that maybe you put 30% down and you’re not going to have to pay the other 70% until the item ships.
It has its own rhythm about it, and it’s typically very different than the rhythm that you would have for your OpEx. OpEx has a pretty predictable month over month type of expenditure. You know if you’re paying yourself monthly, you got to pay yourself a couple of times a month. We hope you may have employees that you’re paying regularly during the month. You may have a warehouse that you’re paying the rent on, your insurance, all of those types of items recur on a monthly basis.
And so that that flow looks really different than the flow of you know I’m going to place an inventory order and it’s going to last me three months, but I’m going to have to do a re-order you know a month beforehand and then not going to happen. That’s just a whole different scenario, and so separating those two things really allows you to see each of them discreetly and learn what those patterns are.
Trent: Yeah that makes a lot of sense; debt is something that newer entrepreneurs and even older entrepreneurs or more experienced entrepreneurs have to deal with and manage on an ongoing basis. How does debt debts with this whole process?
John: Well, let’s talk about the profit account for just a minute because it has a unique strategy to play with debt if somebody already operates in debt in the business. So the profit account, the percentage that you put in that account is going to build up over a quarter. So every time you get an Amazon payout, just start right now put 1% in your profit account at the end of the quarter you’re going to look at what you added that quarter and you’re going to say, “Okay, so I’ve got $2000 in here, what do I do with it?”
You’re going to leave half of it in there so that $1000 is going to stay in the account and that starts to become your rainy day fund. That’s the money that’s set aside. Should Amazon lose your inventory or suspend your account, yeah exactly!
And so that money is starting to build up so that you have it there should you get in a tough spot? The other half of it is what you take out of the business not plough back or reinvest in the business. You totally take it out. It is something for you and your family. It’s what you use to take your kids to Disney World because you hadn’t seen them in 2 weeks because you’ve been trying to get a shipment out. What it really is meant for you to enjoy outside of the business.
Now the one unique thing about this account is, if you have debt in the business, then you use the portion that you take out, you use 90% of that to pay off debt so that you start to snowball your debt repayment out during the month. Pay back your minimum obligations and any more that you can. But every quarter until you’re debt free, you’re going to be taking a big chunk of that profit distribution and putting it towards reducing your debt. Because once you do that, then your cash freeze up so much more that you have more money to be able to do the things you want to do like buy inventory and grow your business.
Trent: So for folks who are thinking, “Hey, this resonates with me I’d like to get started with this Profit First thing” I know obviously they can go in and buy the book but maybe that’s not necessarily, the best first step. Do you have any I think you said you have a quick start guide or something to that effect right?
John: Yes I do, and people can email me and I’ll be happy to send them a quick start guide. God it basically describe the strategy we talked about where you know in addition to your OpEx account how to allocate money to an inventory account and into a profit account and just talk you through the basics of how to make that happen and get that flow going. Once you get that going then you can expand in all of the strategies are in the book as well, but this is just a one page sheet that will outline each step you need to take and I’ll be happy to send that if people can send it to my email address it’s firstname.lastname@example.org. And if they put the word ‘profit’ in the subject line, I’ll know exactly what they’re looking for and be able to send it to them easily.
Trent: Okay and we will include that information in the show notes for this episode which you can get to at brightideas.co/280. Cyndi, thank you so much for taking some time to be on the show, it’s a pleasure to have you here.
John: Thank you Trent; really enjoyed talking with you.