What is the difference between a cost and an investment?

Why do a few hospitality businesses grow, while most are destined to remain small businesses forever? After spending thirty five years looking at the inner workings of a vast number of businesses in my capacity as a management consultant, I think I have some insight into the reasons for this. Aside from obvious blunders like dud concepts and poor locations, the most common reason seems to be a misunderstanding between the concepts of cost and investment.

Many of the business owners I deal with take a reactive day-to-day or week-to-week attitude to their business, rather than a proactive, longer term strategic view; and they wander, like rudderless ships from one year to the next without any real direction or business development goals. It’s understandable, but frustrating. Most have had to work very hard for several years for little gain to get their business to the point where it is making money, and once it does they decrease their commitment to working on the business and go with the flow having achieved the primary objective of creating a viable income.

Many fall for the big trap

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Have you bought a business with a future, or just a a job?

From my perspective there is a big trap at this point. If you are working full time in your business for little more than a good salary, you don’t really have a business; you have simply purchased yourself a job. It’s so easy to get bogged down working in your business, and not have the time or energy to work on it.

Businesses can easily become virtual prisons, holding their owners as captive slaves who can’t take holidays or enjoy a balanced family life. It seems that there are two consecutive dreams that business people have — the first is: ‘How can I get myself into business? Several years later it’s quite a different story. The dream then turns to: ‘How on earth can I get myself out of this?’

They come to see me at my office, often when they are in lifestyle crisis. There is a common thread — they proudly show me their figures and point to a bottom line that at first appearance seems admirable: ‘Look, I’m making 18% (or whatever) profit, I’m doing OK’. I’ll look at the figures and then inspect their business, and the subsequent conversation goes like this: ‘This place is looking pretty tired and is badly in need of refurbishment. I estimate that will probably cost you around $600,000. This is a predictable expense — can you show me where you have put the money aside?’ Embarrassed silence. ‘Ahhhhmmm, ahhh — we haven’t put it aside.

I then have to adjust their figures to include this expense, and now we’re down to minus 3% bottom line for the past three years. They’ve been taking their refurbishment money out of the till and putting it in their pocket and calling it profit. A business becomes valueless when you do this.

Work smarter; not harder

There is no direct connection between effort and result. Working harder may not get you where you want to go

These same people are probably also working awfully hard — filling the role of creative genius, marketing guru, financial controller, human resources manager, problem solver, decision maker, cook, waiter, dishwasher and host — like a lot of business owners. ‘You can save a lot of wage cost by doing it yourself,’ they tell me. Yep, you can — and you can also kill the potential sale price of your business by being absolutely necessary for the running of the business. A business run by a hands-on owner might be worth 1 year’s profit, while the same business with a proper management structure and a hands-off owner might be worth up to 5 years profit at the time of sale.

Both these issues highlight the problems created when short term thinking dominates and the owner pulls money out that really should be reinvested to create a future. The short term financial gain is rarely as much as the gain you will eventually receive if you leave the money there and get it working for you.

A cost is when you don’t get your money back within a reasonable time — e.g. a cutlery polishing machine is not a cost

I also get quite frustrated when business owners complain that they are working long hours, under great stress, and yet refuse to devote any time or money on issues like proper recruitment or staff training — because ‘it costs too much’, or ‘it’s a waste of money’. Some investments take a while to yield results. Another common complaint is that customer numbers and customer average spend are down, but they won’t invest a modest amount to find out why they are quiet while others nearby are busy, or they won’t invest to improve their sales or merchandising skills.

Take a simpler example — six or seven years ago I came across the first generation of cutlery polishing machines at a trade show. I arranged a trial and it worked quite well. It cost around $8,000 at the time, which might seem like a hefty price, but how many hours do your staff spend polishing cutlery each year? When you have a staff member polishing cutlery by hand it does not just cost you their hourly rate, it costs you their hourly rate plus their on-costs and other associated costs of employment — a rule of thumb is to double their hourly rate for the true cost of employment per hour.

In most of the businesses I deal with the purchase of one of these machines would pay for itself in six to twelve months and from then on they would save a heap of money. Disappointingly, only one of my clients has purchased one of these machines; the rest baulk at the up-front ‘cost’ and blithely continue to finance very expensive staff performing this mind-numbing duty year in, year out.

Don’t just look at the up-front outlay — ask yourself how much do I pay out and what do I get back, and when. Sometimes you need to spend money to make money.