The 4 Core Profit First Principles That Will Transform Your Business Finances

Profit First, based on the book by Mike Michalowicz, is a cash flow management system for business owners that helps us to prioritise profit and actually make money from our businesses. 

We use the Profit First system in our own businesses, and we help our clients to implement it in their businesses, too. Profit First helps business owners to get clarity and control over their business' finances, and pave the way for sustained profitability.

It's a cash flow system that's transformational for entrepreneurs and business owners. It's practical, actionable and works for all kinds of businesses.

So let's take a look at the four core principles that lie at the heart of Profit First and show you why this approach is a game changer for small business owners like you.

The Four Core Principles of Profit First

The principles of Profit First show us that the way in which we manage our money is similar to the way we manage our diets. Humans beings naturally default to to habits and behaviours that can mean we don't get the results that we want. 

Instead of trying to use willpower to force ourselves to do things differently, we're much more likely to be successful if we can leverage our natural behaviour. Dietary science has come up with some principles that help us to lose weight and eat well. And what's interesting is that these can be applied to how we manage our money as well. 

Let's have a look at the four principles: 

1. Use small plates
2. Serve sequentially
3. Remove temptation
4. Enforce a rhythm

So how do these principles have anything to do with growing a healthy business? 

1. Use Small Plates

The first principle is to use small plates. Have you ever noticed that the size of your plate dictates how much you eat, no matter how hungry you are? Or how you'll keep eating if there's food in front of you? That's why we stuff ourselves at buffets, but still feel satisfied if we have multiple small plates of food at a tapas bar. 

The principle of small plates is based on Parkinson's Law, which says that the demand for something expands to meet its supply. In other words, we eat whatever's on our plate. When you use a small plate, you eat less. 

And when there's less money available, we'll spend less. 

With Profit First, we harness the idea of small plates by opening multiple bank accounts, each for a specific purpose. 

You have one account for income, and then transfer from this account to your other accounts: Profit, Owner's Pay, Taxes, and Operating Expenses. This helps you to create a clear and organised system for managing your cash flow and business expenses. 

When you can see the smaller "plate" of money you've designated for expenses, you'll spend less. 

2. Serve Sequentially

The second dietary principle is to serve sequentially. If you serve the vegetables first, you'll eat them and fill up on the good stuff, then you eat less of whatever comes next. 

The primacy effect is a psychological principle that means that we are naturally inclined to remember and to place importance one whatever comes first. Serve the vegetables first, and we'll automatically balance our diet in a healthier way. 

Profit First uses the primacy effect to help business owners focus on profit. We all know the standard accounting formula: 

Sales - Expenses = Profit

The problem with this is that it treats profit as an afterthought, like it's a nice surprise at the end of the year. In reality, most businesses struggle with finances month after month, and there's no nice profit waiting at the end of the year.  

But what if we flip that formula to:

Sales - Profit = Expenses

We naturally focus on profit, because it comes first. 

This is how we leverage the primacy effect. We "serve sequentially" and allocate money in a specific order to each of our bank accounts. The first priority is the Profit account, followed by Owner's Pay, Taxes, and Operating Expenses.

When we prioritise in this way, we ensure that profit is our first consideration. Profit becomes a non-negotiable priority, which increases our chances of building a profitable business. Just like eating your salad first means that you increase your chances of getting the nutrients you need in your diet. This simple shift in approach can have a huge impact on your financial stability.

3. Remove Temptation

When you're trying to eat more healthily, having not-so-healthy food in the house can be too tempting. It's all too easy to reach for the chocolate, chips or cake at the end of a long day, right? But if we make sure that it's harder to get, we're much less likely to succumb to the siren call of cake. 

It's the same with managing your money. One of the biggest challenges is resisting the temptation to dip into funds that should be off-limits, especially if things are a little tight. Profit First addresses this issue by encouraging business owners to "remove temptation." This means keeping your profit separate from your day-to-day operating expenses.

Not only that, you create a psychological barrier by using a different bank for your profit and tax accounts - one that's harder for you to access. This separation makes it harder to impulsively spend your hard-earned profits on immediate wants. It's like putting your profits in a safe box and hiding the key, ensuring they remain untouched until it's time to reap the rewards.

4. Enforce a Rhythm

The fourth part of healthy eating, and healthy cash management is to get into a rhythm. Leave it too long between meals and you're starving and more likely to binge. Eating too often, without thinking it through, can mean that you're always snacking. 

Just as the health professionals recommend 5 small meals a day, Profit First has an ideal rhythm and flow for dealing with your cash. 

Exactly how often you transfer out of your income account and into your other accounts depends on your business. The general recommendation is usually once or twice a fortnight. We recommend that you allocate your funds to different accounts according to your payroll cycle, or once a fortnight if you don't run payroll. 

Many business owners check their bank accounts throughout the day, hoping for money to come in. Then they pay whichever bills appear to be the most urgent. Not only is this inefficient, it means irregular payments, and financial uncertainty. 

When you use a consistent system of transferring funds to Profit First accounts, you can avoid impulsive spending and the anxiety of low bank account balances. This system establishes a predictable cashflow pattern, providing clarity and stability. Monitoring cashflow becomes effortless by simply checking your bank account regularly, a habit that many business owners already have.

Final thoughts 

The Profit First method leverages your natural behaviour to help you take control your cashflow and set the stage for permanent profitability in your business. 

These principles are not exclusive to any industry or business size; they're adaptable and applicable to your unique circumstances. By mastering Profit First, you'll be on the path to greater financial stability, profitability, and peace of mind.

Next Steps

Read more about:

What Does Profit Mean To You? 

The Five Essential Bank Accounts Every Business Needs