How you think about the money in your business will determine how much of it you get.
Most small businesses consider revenue as the total amount of money they brought in, and profit as whatever is left over after expenses. That’s a very basic way of looking at your financials, and quite honestly, it leaves a lot of room for error.
I recently spoke with a client that was self-employed, had no outside office or employees, and had almost no business expenses. She sold her expertise (i.e., knowledge and time) and considered everything she made as profit.
But think about that for a moment: if everything she made was profit, what was her time worth? What value did all her learning, education, and experience hold?
This is the wrong way to look at your financial situation, and it’s keeping you stuck in a loop where you will always need to work more to make more.
Good news: There’s a way out of this loop, starting with how you measure profit versus revenue.
Trading Services and Time for Money
Most self-employed people who sell services mistakenly equate revenue with profit. You ARE your business and may have very few expenses built into whatever you charge. So for the most part, you might consider everything you make to be profit.
But there’s a big difference between profit versus revenue, and that difference is harder to see with service businesses where you sell your time as opposed to products. For example, a shoe store receives money in exchange for shoes. Their profit is the money paid for shoes minus the cost of goods and operating costs (e.g., store rent, utilities, insurance, etc.).
This math is much harder when the product is your time, the cost of goods is your time, and the overhead is mostly your living expenses. Where do business expenses begin and end?
To further complicate matters, what if you sometimes work an extra hour or two here and there because you think it’s not really costing you anything? You’re only earning more profit, right? (Side note: Those extra hours cost you more than you think—more on that in a minute.)
Service-based businesses come with challenges when calculating profitability. Because it’s not black and white, most people fall into a common trap: They put in as many hours as possible and try to make as much money as they can, then count the life they have, plus whatever is left in the bank, as how profitable they are.
But the ones who think this way are missing a key ingredient—their free time.
When I talk about profitability as it relates to selling services, your time is a key factor in the equation. In fact, I determine profitability in both dollars and hours to get a true gauge of how profitable a service business is.
To be clear, revenue is simply the money you take in, whether it’s $100,000 a year, $200,000, or more. But your service is your product, and your time is the cost of goods, so what matters is how much you keep in the end AND how hard (and long) you had to work for it.
How You Should Be Doing It
Let’s look at two scenarios:
Frank brings in $200,000 a year in revenue, but he works nights, weekends, and barely takes off for the holidays each year and has never had a proper vacation. Let’s say he has $50,000 in the bank at the end of the year as well.
Stan brings in $100,000 a year, but he works 40-hour weeks for six months out of the year and spends the other six months traveling and enjoying his life. Let’s say he doesn’t have any money in the bank at the end of the year.
Which one would you consider more profitable?
If you didn’t say Stan, you haven’t been paying attention. Stan is wildly more profitable, despite not having any money in the bank. His lack of funds isn’t because he can’t make more money, but because he is choosing not to. If Stan wanted to, he could work an extra three months and get $50K in the bank, but instead, he’s enjoying his time freedom. If he worked year-round in the same 40-hour week fashion, he’d have $100,000 in the bank AND and would still be working less than Frank.
Alternatively, if Frank worked the normal 40-hour weeks that Stan works, he wouldn’t have any money in the bank.
See the difference? The cash isn’t what determines profitability but rather how much revenue is brought in compared to how much you work. You didn’t go into business just to have a fat bank account. You also wanted creative flexibility, time freedom, a chance to do things your way and work on your own terms. But if you’re too busy chasing down cash, none of those other benefits of self-employment will ever be within reach.
How to Find Your Profit vs. Revenue Sweet Spot
In order to have a profitable business that hums and allows you to enjoy your life, I believe it is imperative that you structure your business so you are making money like Stan, using a maximum of 50% of your time to make the revenue you need.
For that to happen, there is a certain price point you need to charge based on how long you take to deliver your services.
That’s why I came up with the 50/25/25 formula to find the price you need to charge for freedom. It’s a simple formula that helps you figure out exactly how much your services need to be in order to be profitable without you getting confused about the revenue.
You can learn how to use it and find your price here.
Once you figure out your sweet spot, you might realize you’re nowhere close to charging that much! Resist the urge to think, “Oh, no one is going to pay that much!” or “There’s no way I can get away with charging that much since it only costs me X hours of work!” This type of negative thinking will have you continually spinning your wheels, and you’ll stay stuck in that trap of working more to earn more.
Knowledge is power, and knowing your ideal number is the first step to building a business that you KNOW is profitable without having to sit down and math it out. You’ll be confident that you can get off the hamster wheel where you are always hustling to make more money with no end in sight.
Take control of your numbers to find freedom in your business—you’ll wish you’d done it sooner.