What is more important for a business: profitability or growth?
For a business, this is the same as the question "what came first: chicken or egg?"
We all agree no business can survive without growth or profits, but the moot question is what should a business focus on first?
Traditional businesses almost always focus on ‘Profits’ first, though the younger businesses lean towards ‘Growth’ first.
Both approaches are correct and rational, but each comes with its bag of pros and cons. These should be taken into account by a business person to arrive at a fitting approach.
Seeing the two approaches side by side in light of your business offerings and model may help you arrive at the winning blend.
Growth first: the new status quo
Profitability is a must through a company life cycle, even for a startup. Growth of sales and market expansion help enable the initial profitability. Post crossing the launch/startup phase, identifying expansion prospects is what triggers growth.
Growth for businesses is simply an expansion that results in the company becoming bigger in terms of size, markets, product offering, revenue, profits, and valuation, thus becoming more lucrative. Some relevant indicators such as overall revenue, the number of employees, market share, and turnover, provide a measure of growth.
Even if the current profitability of a business is satisfactory, one needs to pursue growth prospects. These growth prospects provide opportunities to increase overall profitability and keep the firm attractive to investors.
For a group that prides itself on being volatile and disruptive, startups have been paradoxically stuck in a rut of this new status quo of a “grow at all costs” approach.
The approach seems logical when you factor in the investor demand and competitive pressure that compels entrepreneurs to set aggressive expansion targets.
Venture capitalists and stock markets appear to have fuelled this, and they have benefitted from it (when it works). Some onlookers rightfully continue to be perplexed on why it makes sense to invest billions in enterprises that are not profitable.
- Attractiveness to prospective investors
- Obtaining follow up funding from current shareholders
- Attracting media coverage
- Getting a head-start on the market share from the competition
- Failure to anticipate a probable slowdown in traction
- Burn rates for capital are high
- The ramifications of failing to meet big growth goals
- Negative public perception if drastic steps are required to become profitable.
- You are never more than one round of financing away from closing down your company.
Profit is defined as revenue after deducting all operational expenditures of a company related to manufacturing, production, running costs, and the sale of items.
Profit is equivalent to "cash in the bank". It is often either distributed among the owners /shareholders or reinvested in the company.
A company’s survival and operations are jeopardised if it holds insufficient capital or financial resources. Profitability defines a company’s runway in terms of a crisis or adversity.
Although financing may lend the firm the required runway to stay afloat for a while, it is not sustainable as it is a liability, not an asset.
Given the unforeseen circumstances of the past year and a half, more and more entrepreneurs have turned their focus to profitability first. Which means putting profitability before expansion.
For an organisation to flourish, it needs the fuel of constant growth. If one fails to diversify and evolve, one is likely to be left behind and perish.
- Profitability will naturally attract investment and acquisition proposals if you have a solid business strategy with proven results.
- In a fundraising round or a sale, you have bargaining and negotiating leverage.
- Provides sustainability in bad market conditions.
- You have the power to direct your fate.
- It may be more difficult to raise funds initially if there isn’t substantial growth.
- In fundraising rounds, lower values are expected.
- Faced with rapidly shifting industrial forces (think Uber and Airbnb)
- Lack of adequate financing might make product development more complex.
Neither growth nor profitability is likely to occur unless backed by a sound strategy. Irrespective of who is the forerunner, at some point, both will need to be focussed upon to meet the company objectives.
If you are putting growth first, it gets you the investors, users and team to back you up on that, it's a winner.
In simpler words, line up your business strategy to turn genuine net profits on a dime if circumstances change on you. Investors need to see a game plan that yields real profit. For effectiveness, this needs to be accomplished without jeopardising the user base.
It may mean having to revisit what made you great and gave you growth (like low prices, high value, faster delivery, and more support and first-class customer service) but choose carefully what you alter lest you may find a lot of your users may decide to part company.
On the other hand, if you prioritise and generate profits first, make sure you have a plan in place for steady growth that doesn't need you to slash your profit margins. To account for brokers, affiliates, and merchants, you may need to start with higher profit margins than you need.
Some quick tips for gaining and maintaining
- Using a well-thought-out PR and content approach that is consistent
- Acquiring expansion through acquisitions of enterprises with a higher growth rate
- Expansion into new areas
- Buy market share by pricing the competition out of business.
- Maintain a low static overhead.
- Create a lucrative model from the very first transaction.
- Before your official debut, presell to get your first clients and income.
- To account for future distribution channel discounts and expenses, use a higher priced model.
Both profitability and growth are vital and indispensable for a company to thrive, continue to attract investors and stay in business. Profitability defines the liquidity for a company, but long-term viability requires growth.
All in all, profitability without a growth plan or growth plan without profitability will cause a company to annihilate. Both are needed and need to be factored in when drafting the company strategy.
(Disclaimer: The views and opinions expressed in this article are those of the author and do not necessarily reflect the views of YourStory.)