Grandad, my schoolteacher says that profit is a dirty word. Is that right?
It most certainly is not right but maybe he means that some profit is dirty because it is made by lying, cheating and selling shoddy goods. This happens but businesses doing this do not last long and the people doing it can be fined or sent to prison.
Most businesses are better than this. A successful business creates income by selling things or providing services that people want. Consider a simple example such as a restaurant. The food has to be good, the service excellent, the price not too expensive and the business owner has to obey lots of laws about health and safety. He or she has to pay suppliers, pay staff, pay electricity and gas, pay council rates, pay tax and pay many other costs.
He has to bring in money from his customers and he has to pay all his costs. The money coming in has to be more than the money going out. Otherwise he will not be able to continue. The difference between income and costs is profit. Therefore profit is far from being a dirty word. It is an essential sign that the business is being run correctly and will survive.
There are a lot of other benefits that result from a business making a profit. Can you think what they are? Firstly the business owner will have the money to invest in the future – new equipment, better furniture, maybe even new or extra premises.
Secondly he will be able to pay off money that he might have borrowed to start the business. He (or, of course, she) will be able to save some money or invest in pensions for him and his staff. The business person who makes a profit can make donations to charity and many successful business people do this.
From the business point of view there is yet another reason for appreciating the value of profit. Profit makes a business more valuable, not only by putting money in the bank but more importantly creating something that can make money in the future. The value of a business is not only its property and its money in the bank, it is the value of profits it can make in the future.
Suppose our restaurant owner starts by buying a run-down property which has a bad reputation and virtually no customers, therefore not making a profit. It is such a mess that he was able to buy it for $50,000. By hard work, good cooking and good service he is able to build a successful business that five years later it is thriving and making a profit of $100,000 per year. He has probably re-invested some of his profits each year to buy the best kitchen equipment and spent money on decor and furniture, so his total investment might be an extra $200,000. The good news for him is that he can, if he wishes, sell the business for more than his total investment of $250,000. Why? Because the business has profits of $100,000, giving the business extra value. Such a business could easily be worth $750,000 or more.
This is the wonder of profit. The business owner is happy, the customers are happy, jobs have been created, tax has been paid, the local area has a smart restaurant, everybody has benefitted and no-one has been hurt. This is the magic of business that I will tell you a lot more about in the coming articles.