Is there such a thing as unhealthy profit?
Recently we have had several conversations with potential clients about how they can increase their profits. This is not unsurprising, considering that our purpose is helping businesses increase their profitability. What is perhaps surprising is that we have advised them to step back from some of the cost-cutting measures that they were contemplating. The reason? In our view, not all profit is necessarily good. There is such a thing as unhealthy profit.
In agencies owned by the big publicly listed advertising conglomerates, where quarterly financial reporting is a requirement and it is all about delivering short-term shareholder value, the perpetual drive to increase EBIT is tantamount. The dreaded gross margin to salary costs ratio is wielded as a means to ensure more and more output is delivered by less and less cost (or people!), and thus, greater profits are generated.
Now, from a commercial perspective this makes sense if a business has not been managing costs effectively or where inefficiencies have been allowed to creep into an operating model. It also makes sense in commoditised or highly automated businesses.
However, if a business is already lean, efficient and operating a peak-load (and after the last six years of recession and slow-recovery most businesses we see are pretty efficient), then this EBIT focus via cost cutting can only lead to one logical step – profits, but delivered at the expense of staff-welfare, client delight, and innovation. This is doubly the case if your business is heavily creative and requires the input of people to deliver whatever it is your business sells; insight, digital, consultancy, events, advertising, PR etc.
Thus, where increasing profit is only about reducing costs (especially if it is by achieving some ever more distant financial ratio set in a budget) there is a real danger that the long-term future of the business is being put in jeopardy. This, we argue, is the pursuit of unhealthy profit; where it undermines the proposition, brand and morale of the business – and the reality is that this destroys the business full-stop, never mind shareholder value.
And so, the next time you are considering measures to increase profit, and they are almost entirely focused on cutting costs or holding back on investment, do consider the outcome. There are many ways to improve profitability (we should know as we help our clients do it), and they can be about efficiency and cost control, but also about growth, investment and innovation. Always ask yourself if you are solely focused on cutting costs, the profits may well be welcome, but are they healthy?