The Purpose of Profit

Profit is the ultimate test of business performance.

Profit serves three purposes.  One is it measures the net effectiveness and soundness of a business’s efforts.  Another is the “risk premium” that covers the costs of staying in business-replacement, obsolescence, market risk and uncertainty.  Seen from this point of view, there is no such thing as “profit”; there are only “costs of being in business” and “costs of staying business.”  And the task of a business is to provide adequate profit.  

Finally, profit ensures the supply of future capital for innovation and expansion, either directly, by providing the means of self-financing out of retained earnings, or indirectly, through providing sufficient inducement for new outside capital in the form in which it is best suited to the enterprise’s objectives.

ACTION POINT: Decide to pull the plug on an unprofitable business if it is not covering the cost required to stay in business or providing enough capital for future growth.