That was something I learned from my business partner, Ken Anderson. I don't know where he picked up the idea, but he was right. The idea was that you always have to make sure your business makes money. For the first seven years of our business together, we made sure that we made the profit percentage, the EBITDA percentage, that we had decided in our budget. What that simply meant was we took a smaller salary or less commission until the business made the money it needed.
Because if your business doesn't make a profit if it doesn't have cash flow, it can't hire the people and buy the equipment, do the marketing and the other things required to grow. So, if you want your business to be successful, you make sure it always makes a profit before you do.
The Money Goes Back Into Your Business
Well, you put the money back into the business where it needs it. Sometimes it needs it in people. Sometimes it needs it in equipment. Sometimes it needs it in marketing, maybe you're trying to buy a building. You always need money to grow. So, what you need it for changes over time. However, if you're not stacking it away every day, if you're not making sure the business gets paid first, then when you need it, you won't have it.
We had an agency member a few years ago who had a goal to buy a building for his agency. When we looked together on his balance sheet, he had no cash. I said, "What are you going to use for the down payment?", and he gave me a puzzled look. That's why you need to stack up cash.
Profit Needs vs Profit Goals
Every business has its own profit needs and its own profit goals. In the insurance agency business, a well run Insurance Agency should be generating 20 to 25% EBITA, earnings before tax taxes, interest, depreciation, and amortization. Profitable agencies may make as much as 35%. It's important to pay the business first. If the owner is serving as a salesperson he should pay himself commission.
He should also pay himself a salary for the work that he does, and let the rest of the revenue that is generated come to the business as profits. Then they can make a decision of how much of those profits to leave in the company based on its growth and cash needs and, how much may be available for distribution to him.
When You Don't Pay Your Business First
If you don't pay the business first you go broke.
Why? Because, when the time comes where the money that you think is going to show up to pay its bills isn't there, you have no money. One of the things that you do is you build profit in a business that you create something called working capital.
Working capital is one of those fancy accounting terms that I think is sometimes intimidating to new business owners. All it means is having money in the bank so that you can pay your bills, even if you have a hiccup in what your customers are paying you. Working capital is something that everyone needs to be successful in business. How much you need depends on how rapidly you're trying to grow, how quickly you're collecting accounts receivable, how much cash flow you have, whether you're in the service business or the inventory business. So, it varies by business, but everyone needs working capital.
If you don't pay the business first, you don't accumulate the money you need for that. Then what happens, is the big bill shows up or you have a cash flow hiccup, and boom, you're insolvent. Insolvency leads to bankruptcy, and now you get to work for somebody else because you didn't pay the business first.
The Same Concept Applies to Your Personal Life
I think we all understand from our own lives, that we have to have the income to pay our bills. If you think about it, your business isn't any different than you are. It has to have money just like you do. It has bills just like you. It has income just like you do, and if you don't keep a little money set aside when something happens, like a health emergency or something like that, guess what you are? You're bankrupt. That's the same thing that will happen to your business.
So, I'm not sure it is that complicated. It just uses big words to describe. I learned it by starting my first business when I was 10 years old, and I've owned businesses ever since. I've learned it through experience. Our members have learned through the coaching we provide. And there are lots of business books out there. But really, it's simple. Pay your business first, before you pay yourself, save a little bit of money. The more experience you get, the more experience you'll have about how much that money that should be.