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Demystifying the Profit Growth Formula

19 Jul, 2018 by David Seamans

Webp.net-resizeimage-2The coaching industry has focused on four components of Income being:

Leads X Conversion = Clients X Average Sale Vale X Number (or frequency) of transaction = Income

("Number of Clients" derives from Leads X Conversions)

See diagram (Squares being the derived values of Customers and Income)

The problem with this model is that it is impossible to apply.

The formula refers to movement. It cannot establish a baseline from which the client can build upon.

(Leads X Conversion) is misleading as these are only "new" customers in this period. Existing purchasing clients generated in previous periods are ignored. One cannot talk about increasing the average sale value or the number of transactions of new clients - it is nonsense. So one must be referring to, at least in part, to existing clients when applying the rest of the Profit Growth formula.

Thus Active Clients is the sum of "existing" clients PLUS "new" clients purchasing in this period.

Experience shows that when an accountant, bookkeeper or company coach tries to determine the quantity of Clients, they come unstuck. The definition is unclear. Is this all clients past and present? This is a discussion for a later blog.

The business owner has an estimation of the approximate average sale. They also know that they see their customer “x” number of times a year. But what makes up the actual number of clients??

He assumes any increase in "Income" is proof that they have increased at least one Handle.

Which one though is not always that clear. It is a bit like leeching - something happened so the patient must be improving.

The business advisor lacks a baseline. He cannot accurately measure any improvement or deterioration. The traditional model cannot report effectively. It can only report outcomes retrospectively and out of date.

Elements has overcome this.

Sales Income must reconcile to is the accounting Revenue from Trading figure.

Anything else is nonsense.

infographic03 Starting point - the Sales Results must be reconcilable to Financial Results. The Trading Income figure must equal the sum of the components (referred to as “Handles”).

Thus Income = Active Customers X Average Sale Value X Number of Transactions

NB Refer to following blogs for the determination of each handle.

Everything else outside of this formula is a Strategy. Strategies have an effect on the "Handles". Strategies can be structured to have a laser like effect on a particular "Handle".

More importantly "Elements" provides a quick and accurate illustration of past trends (limited only by the data contained within the accounting system).

The advantages of the Elements system are:

  • A Strategy is structured to generate a majority outcome in one of the three handles. (Admittedly, strategies can have an impact on a secondary Handle. In time, a business advisor will be able to hone strategies to have laser-like precision.) Business development is like a scientific experiment reducing uncertainty in achieving outcomes.
  • Past trends are immediately visible promoting "cause and effect" analysis.
  • Reporting is immediate and accurate. An online notification can now be sent to the business owner automatically eg. “The business has experienced a drop in average sale of 10% in the last seven days”.
  • Targets can be set which reflect the traditional accounting budget of the business. Sales budgeting is no longer just a dollar amount. Budgeting will be targets for “Active Clients X Average Sale X Average Number of Transactions”. Sales are tightly tied to forecasting.
  • Strategies effectiveness will categorise along industry lines. Business advisors and owners can track performance strategies. against an industry average expected result.
  • Elements results compared to capacity of target market indicates the business's capital value.
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David Seamans

Co-Founder at Elements, Retired CPA and Company Coach with 35 years of experience building better businesses.