It’s very easy as a business owner to get caught up in the daily problems and hassles of running a business. Sometimes you need to step back and take a look at what it is you are trying to achieve with your store so you can get a better perspective and better performance from your business.
A good question to ask is, “Is my business helping me towards my future wealth & retirement requirements or is it just providing me with a job?”
Sometimes your success will come down to demanding more from your business and for yourself. It requires an understanding of the ‘Gap’ between required/desired performance and current performance… something we refer to as the ‘GAP Analysis.’
Remember your retail business is simply a ‘tool’ to help you achieve your living and wealth needs both now and in the future.
It’s important to remember that the return on your business investment comes over and above your ‘market’ income each year. Your market income reflects your daily activity and is therefore excluded from any return on investment. That is your job remuneration for working in the business. Your ROI is the return on the money you have invested and you need to separate both.
If a business cannot post a surplus after owners’ salaries, it might also be hard to substantiate goodwill to a potential purchaser.
Otherwise referred to as the ‘Bottom Up’ budget, there are four steps to the ‘Gap’ Process. These are:
- The ‘GAP Analysis’
- The Gross Profit ‘GAP’
- The Sales ‘GAP’
- The Inventory ‘GAP’
Because we are committed to you actually using this powerful process, we will only cover one step at a time and then have you complete some action steps of your own.
Step 1 – The ‘GAP Analysis’
The ‘GAP’ analysis also consists of four steps:
- Retirement/Exit Planning (including Succession Planning)
- Personal Exertion
- Return on Investment (this is different from GROI)
- Overheads (operating expenses)
Let’s take a closer look at these.
a) Retirement/Exit Planning – At some point you will probably want to retire. If you know that date and how much money you will need by that point in time then you may well find there is a GAP between the amount of savings you have now and the amount you will need at retirement.
Example: Let’s say you want to retire with $700,000 of investment capital in ten years time and you currently have $400,000. That means you need to generate a further $300,000 of investment capital over ten years which is $30,000 per year after tax.
We will talk more about actual exit/succession strategies at another time.
So the first figure to go into your ‘GAP Analysis’ is:
(a) Retirement/Exit Planning – $30,000
b) Personal Exertion – Your personal work effort each week (exertion) reflects your market salary. This is normally consumed and does not form part of your wealth calculation as you live off this income.
A good way of looking at this is to ask yourself what you would pay someone else (a manager) to do what you do or what you would expect someone else to pay you if you worked for them.
Example: If the market salary for your role is $50,000 for a 40 hour week and your work a total of 60 hours, your adjusted market salary would be $75,000 because you are essentially doing the work of one and a half people.
So the second figure to go into your ‘GAP Analysis’ is:
- Retirement/Exit Planning- $30,000
- Personal Exertion – $75,000
c) Return on Investment – Putting a figure on a ‘required return’ is as much an art as a science. This is what you expect to earn each year on the money you have invested in your business. (We recommend you seek help from your professional advisers (accountant) in this area.
Action Steps:
- Determine the investment you have made in your business or what your business owes you e.g. $400,000.
- Ascribe a financial return that warrants your business risk. As a rule of thumb we use a figure of 27% which is approximately half way between what a willing buyer will offer you for your profit (they normally want a 33% return) and what you think is fair (normally 20%) – in other words, if your business is making an annual net profit of $100,000 a buyer would offer you $330,000 for your business (a 33% return) and you would want $500,000 (a 20% return). So a 27% return is roughly where a willing buyer and a willing seller would settle.
This return of 27% is made up of two parts:
- The ‘risk free’ return i.e. the rate any bank would pay you for having your funds on deposit with them.
- The ‘risk premium.’ Consider general small business risk, the fact your funds cannot easily be withdrawn and specific industry risk such as a competitor opening up next door to you.
Example: If your business owes you $400,000, at a 27% return you should expect to generate $108,000 of extra gross profit from your capital investment.
So the third figure to go into your ‘GAP Analysis’ is:
- Retirement/Exit Planning- $30,000
- Personal Exertion – $75,000
- Return on Investment – $108,000
d) Overheads – In this context, overheads are all other costs below your gross margin line, including wages, rent, power, bank fees, etc. Basically everything in your Profit & Loss list (excluding product).
Example: If your other business costs are $350,000, this figure needs to be added to the ‘GAP Analysis’ as shown:
- Retirement/Exit Planning- $30,000
- Personal Exertion – $75,000
- Return on Investment – $108,000
- Overheads – $350,000
Total Gross Profit required: $563,000
This gives you the level of gross profit you require in order to achieve your business goals. How does your business compare?
David Brown is President of the Edge Retail Academy, an organization devoted to the ongoing measurement and growth of jewelry store performance and profitability. For further information about the Academy’s management mentoring and industry benchmarking reports contact inquiries@edgeretailacademy.com or Phone toll free 877-569-8657.
