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VI. How is Wealth Built in a Small Business? Can you build wealth and financial security by owning your own business? Yes. But to do so, a small business owner must understand that they are working toward two financial goals : The first is to make a living by providing an income for themselves; the other is to grow the business to increase its value . Product or Service. The first step toward building wealth through a small business has to do with the product or service the business sells. It must be a product or service the market demands. In other words, you have to sell something that people want and are willing to pay for, and you must sell it at a price people are willing to pay. The product or service must remain relevant, which requires periodically updating and improving it.
Profit Margins. A profit margin is a measure of how much out of every dollar of sales a business keeps in earnings . In other words, it tells what’s left over after expenses are paid. The higher the profit margin, the higher the value of the business. Assume for example, a business had $15,000 in
Profit Margin Revenue minus Expenses = Gross Profit Gross Profit/Revenue = Profit Margin
sales revenue in June. Its expenses for that month were $10,000. To figure out the profit margin, you’d deduct expenses from revenue, which tells you the gross profit . Then divide the gross profit by the revenue — and bingo! — you’ve got the profit margin. In this example, revenue ($15,000) minus expenses ($10,000) is $5000 (gross profit). Divide the gross profit by revenue ($5000/$15,000 = .33) and you can see that the store’s profit margin was 33%. That means out of every dollar of sales, the business retained 33 cents as profit. Increasing Profit Margin. Building wealth in a business requires increasing the profit margin. There are a couple of ways to do this : One is to increase sales revenue. The other is to reduce expenses. When running a business, it is important to put as much effort into increasing revenue as reducing costs, because both improve the profit margin. That increases the value of the company. Expansion. Wealth is built in a business by increasing value through expansion . Expansion can be achieved in many ways. For example, a business can grow its “core” sector , such as a restaurant that expands to multiple locations. A business can also expand by diversifying into other sectors or products , such as a restaurant that enters the prepared food market by selling its products to grocery stores, or expands its operations into catering. Adding more and more income streams is key to increasing the value of the company. Timing of growth is also key. Expanding too rapidly puts financial strain on a business; expanding too late can cause a business to miss opportunities or allow a competitor to dominate the market. The business owner and their team must have a focused growth strategy, accurately timed to pursue opportunities to increase revenue and gain more and more customers. Reflect on Learning: Do you understand how a small business is both a means of earning an income and building wealth? Can you calculate a profit margin and explain how to build wealth in a business? 1300 years of Hot Water According to the Guinness Book of World Records, the oldest continually operating business in the world is Nisiyama Onsen Keiunkan a hot springs hotel located in Yamanashi, Japan. It started operating in 705 and still serves customers today. Fin Lit Trivia Fin Lit Trivia Fin Lit PRODUCT PREVIEW
THE 21st CENTURY STUDENT’S GUIDE TO FINANCIAL LITERACY 227
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