Business Growth & Exit Ready Weekly - July 31: Granular Profit Mapping: Isolating Real Profit Engines to Supercharge Growth
Rod Fraser
Business Growth Mentor, Strategist + Investor - Helping business owners grow and scale, a profitable, valuable, and sellable business.
Welcome to the Business Growth & Exit Ready weekly newsletter! July 31st, 2024.
Your weekly dose of resources, strategies for growth, scaling, profit maximization, and lucrative exits.
In this newsletter:
Our featured article, Granular Profit Mapping: Isolating Real Profit Engines to Supercharge Growth, explores how businesses can use detailed profit mapping to identify their true sources of profitability and drive growth. The focus is on going beyond surface-level analysis to understand where profits truly come from, providing practical advice for implementing a granular approach to profit mapping and accelerating business growth.
We're also excited to highlight Islands of Profit in a Sea of Red Ink" by Jonathan L. S. Byrnes as our book of the week.
This book explores how businesses can identify and focus on their most profitable areas, often referred to as "islands of profit," while addressing or eliminating the less profitable or unprofitable parts, described as "a sea of red ink." The book emphasizes the importance of profit mapping, customer profitability analysis, and aligning operations with profitability insights. Byrnes highlights that up to 40% of activities in many businesses may be unprofitable, advocating for a focus on the most valuable segments to drive overall business success.
Kind regards,
Rod Fraser
Quotes about finding the real profits in your business:
"Show me the money!" - Jerry Maguire, from the film "Jerry Maguire
"In my research, I've found that 40% of every company is unprofitable by any measure, and 20% to 30% provides all the reported profits and subsidises the losses. The rest breaks even." - Dr. Jonathan L. S. Byrnes, senior lecturer at MIT
"Many companies have a wealth of data at their disposal, but they fail to use it effectively for pricing and profit optimization. The key is to transform raw data into actionable insights." - Professor Hermann Simon, expert on pricing strategies
"Understanding your true profit centers is crucial for scaling up. Often, the most profitable parts of your business are hidden beneath layers of aggregated data. Dig deep to find where your profits really come from - it's rarely evenly distributed across your business." - Verne Harnish, author of "Scaling Up"
This week's topic:
Granular Profit Mapping: Isolating Real Profit Engines to Supercharge Growth
In the iconic film Jerry Maguire, the unforgettable line "Show me the money!" resonates with business owners worldwide. This rallying cry for profitability encapsulates the essence of profit mapping - a strategic approach to uncovering where profits truly lie and boosting gross margins for sustainable growth. In this comprehensive exploration, we'll delve into the intricacies of profit mapping, examining how it can transform your business's financial landscape by focusing on your real profit drivers.
Demystifying Profit Mapping: Revealing the True Sources of Profit
Profit mapping is more than just a financial analysis tool; it's a strategic compass that guides businesses to their most lucrative areas. Unlike traditional financial reporting, which often provides a broad overview, profit mapping drills down into the specifics of where money is made and lost within a business.
Dr. Jonathan L. S. Byrnes, a senior lecturer at MIT and author of "Islands of Profit in a Sea of Red Ink," emphasises the critical nature of this approach:
"In my research, I've found that 40% of every company is unprofitable by any measure, and 20% to 30% provides all the reported profits and subsidises the losses. The rest breaks even."
This striking revelation underscores the urgent need for businesses to adopt profit mapping techniques. By identifying these 'islands of profit,' companies can focus their resources on the most lucrative areas while addressing or eliminating unprofitable segments.
Unearthing Your Profit Powerhouses: The Profit Mapping Process
Data: The Foundation of Profit Discovery
The bedrock of effective profit mapping lies in comprehensive data collection and analysis. This process involves gathering detailed information on:
Professor Hermann Simon, a world-renowned expert on pricing strategies, notes:
"Many companies have a wealth of data at their disposal, but they fail to use it effectively for identifying their true profit drivers. The key is to transform raw data into actionable insights about where profits really come from."
Practical Action: Implement a robust data analytics system that can integrate information from various sources within your business. Focus on granular data that reveals profitability at the product, service, and customer level.
Identifying Profit Centers: Spotlighting Your Money-Makers
Once you have a clear picture of your financial data, the crucial step is to identify your profit centres. These are the areas of your business that generate the most significant returns relative to their costs.
Verne Harnish, author of "Scaling Up" and a leading expert in business growth strategies, advises:
"Understanding your true profit centers is crucial for scaling up. Often, the most profitable parts of your business are hidden beneath layers of aggregated data. Dig deep to find where your profits really come from - it's rarely evenly distributed across your business."
Practical Action: Conduct a thorough profitability analysis of each product line, service offering, and customer segment. Use activity-based costing to ensure all overhead costs are accurately attributed. Look for the 20% of your business that's likely generating 80% of your profits.
Diving Deep: The Granular Approach to Profit Mapping
To truly unlock the power of profit mapping, businesses must be willing to dive deep into their financial data. This granular approach involves dissecting every aspect of your operations to understand profitability at the most detailed level possible.
Granular Financial Analysis
Going granular in your numbers means examining profitability across multiple dimensions:
Dr. Peter Drucker, the father of modern management, once said:
"What gets measured gets managed."
This principle is at the heart of granular profit mapping. By measuring profitability at these detailed levels, you gain the insights needed to make informed decisions about where to focus your resources and efforts.
The Role of Financial Expertise
Implementing a granular approach to profit mapping requires robust financial expertise. This is where the value of a skilled management accountant and bookkeeper becomes apparent.
A management accountant can:
Meanwhile, a proficient bookkeeper ensures:
Together, these professionals form the backbone of your profit mapping efforts, ensuring you have accurate, detailed financial data to work with.
Leveraging AI for Profit Insights
In the era of big data, artificial intelligence (AI) has become an invaluable tool in profit mapping. AI can help extract key information on profitability across various dimensions of your business.
AI-powered financial analysis tools can:
As Sundar Pichai, CEO of Google, notes:
"AI is probably the most important thing humanity has ever worked on. I think of it as something more profound than electricity or fire."
In the context of profit mapping, AI can process vast amounts of financial data quickly and accurately, uncovering insights that might be missed by human analysis alone.
Mapping the Vertical Matrix
A comprehensive profit mapping exercise should extend beyond your immediate operations to encompass your entire value chain. This involves mapping the vertical matrix around your business, from suppliers to customers.
Consider:
By mapping this vertical matrix, you can identify opportunities to enhance profitability throughout your entire business ecosystem.
Practical Action: Implement an integrated financial management system that combines granular data collection, AI-powered analysis, and expert financial oversight. This system should provide real-time insights into profitability across all dimensions of your business.
Boosting Gross Margins: Amplifying Your Profit Engines
Identifying profit centres is only half the battle. The real power of profit mapping comes from using these insights to boost gross margins across your business, particularly in your most profitable areas.
Harnish emphasises:
"Once you've identified where your profits truly come from, focus relentlessly on improving those areas. A 1% increase in gross margin in your key profit drivers can translate to a significant boost in overall profitability."
Strategies for enhancing gross margins in your profit centers include:
Practical Action: Develop a strategic plan that outlines specific actions to boost gross margins in your identified profit centres. Set clear targets and timelines for implementation.
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Leveraging Pricing Strategies: Maximising Your Profit Drivers
Pricing plays a pivotal role in amplifying the profitability of your key profit centres. Professor Simon, in his book "Confessions of the Pricing Man," states:
"Price is the most effective profit driver. A 5% improvement in price in your most profitable areas can result in a substantial improvement in overall operating profit."
This powerful insight underscores the importance of strategic pricing in your profit mapping efforts, especially for your key profit drivers. Consider the following approaches:
Value-based Pricing for High-Profit Products/Services
Align your prices with the value perceived by your customers, particularly for your most profitable offerings.
Segmented Pricing Based on Profitability
Implement different pricing strategies for different customer segments based on their profitability and willingness to pay.
Premium Pricing for Top Profit Generators
Consider premium pricing strategies for products or services that your profit mapping has identified as top performers.
Practical Action: Conduct regular price sensitivity analyses for your key profit drivers. Ensure your pricing strategy maximises profitability in these areas without sacrificing market share.
Scaling Up Your Profit Centers
As businesses grow, maintaining and improving gross margins in your profit centres becomes crucial. Verne Harnish offers valuable insights on scaling profitably:
"The key to scaling up is to focus on your core profit drivers - the 20% of products or services that generate 80% of your profit. Ruthlessly eliminate or improve everything else that's dragging down your margins."
Harnish recommends the following strategies:
Practical Action: Conduct a regular "profit audit" to ensure you're continually focusing on and improving your true profit centers.
Navigating Common Profit Mapping Pitfalls
As you embark on your profit mapping journey, be aware of these common pitfalls:
Ignoring Cost Allocation in Profit Centers
Ensure all costs, including indirect and opportunity costs, are accurately accounted for in your analysis of profit centers.
Overlooking Customer Profitability Within Segments
Even within profitable segments, not all customers are equally valuable. Analyse the profitability of individual customers or micro-segments.
Dr. Byrnes cautions:
"The biggest mistake companies make is treating profit mapping as a one-time exercise. It should be an ongoing process of continuously identifying and maximising your profit drivers."
Practical Action: Establish a regular profit mapping review process, integrating it into your annual strategic planning cycle with a focus on your key profit centers.
Charting the Course for Sustainable Growth
In an increasingly competitive business landscape, profit mapping focused on identifying and maximising your true profit drivers is not just a financial exercise—it's a strategic imperative. By adopting a systematic approach to understanding and optimising your profitability, you can uncover hidden profit centres, boost gross margins where it matters most, and drive sustainable growth.
As you embark on your profit mapping journey, remember the words of Verne Harnish:
"Profitability isn't just about making money everywhere; it's about identifying where you really make money and doubling down on those areas."
By mastering the art and science of profit mapping with a focus on your true profit drivers, you'll be well-equipped to navigate the complex waters of business finance and steer your company towards long-term success and prosperity.
Remember, as management guru Peter Drucker said:
"Efficiency is doing things right; effectiveness is doing the right things."
Granular profit mapping, supported by financial expertise and AI, helps ensure you're not just doing things right, but that you're focusing on the right things to drive profitability and growth.
Rod Fraser - Investor + Business Mentor
Business Growth Strategies
References:
Byrnes, J. L. S. (2010). Islands of Profit in a Sea of Red Ink: Why 40% of Your Business Is Unprofitable and How to Fix It. Portfolio.
Simon, H. (2015). Confessions of the Pricing Man: How Price Affects Everything. Springer.
Harnish, V. (2014). Scaling Up: How a Few Companies Make It...and Why the Rest Don't. Gazelles, Inc.
Drucker, P. F. (2006). The Effective Executive: The Definitive Guide to Getting the Right Things Done. HarperBusiness.
Australian Institute of Company Directors. (2021). The Director's Playbook: The future of financial reporting. https://aicd.companydirectors.com.au/resources/bookstore/the-directors-playbook-the-future-of-financial-reporting
Harvard Business Review. (2019). The Value of Value-Based Pricing. https://hbr.org/2019/09/the-value-of-value-based-pricing
Book of The Week:
"Islands of Profit in a Sea of Red Ink" by Jonathan L. S. Byrnes is a business book that explores how companies can identify and focus on the profitable parts of their operations while addressing or eliminating the unprofitable ones. Byrnes uses the metaphor of "islands of profit" to describe the areas of a business that generate the most value and "a sea of red ink" to represent the unprofitable or less profitable areas.
Key Points and Concepts:
Overall, "Islands of Profit in a Sea of Red Ink" offers a practical approach for businesses to increase profitability by focusing on their most valuable activities and customers, while also providing actionable insights for addressing less profitable or loss-making areas.
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Rod Fraser - Investor + Business Mentor
Business Growth Strategies Pty Ltd
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