Working Back From Your Profit Target

Why Starting With Revenue Is Backwards

Most small business planning conversations start with revenue: "We want to hit $1 million this year." It sounds ambitious. It might even be achievable. But revenue without a profit model is just a larger number to be stressed about.

A service business turning over $1.2M with a 4% net margin ($48k profit) is in a worse position than one turning over $650k with a 22% net margin ($143k profit). The first owner is working harder, managing more complexity, and earning less.

The better approach is to start with profit — specifically, the net profit you want the business to produce — and work backwards through the numbers to determine what revenue, pricing, and capacity are required to produce it.

The Reverse-Engineering Model

The calculation works in four steps:

1. Desired net profit — the amount you want left after all expenses, including your own wage
2. Required gross profit — net profit plus total overhead
3. Required revenue — gross profit divided by your gross margin percentage
4. Required pricing/volume — check the revenue figure against your capacity (team, hours, billing rate)

A Worked Example

Let's say you want $180,000 net profit from your service business this year, on top of a $120,000 owner's wage (which is already in the overhead).

Your overhead breakdown:

• Owner's wage: $120,000
• Staff (1 FTE): $75,000
• Rent, insurance, subscriptions: $25,000
• Total overhead: $220,000

Desired net profit: $180,000

Required gross profit: $180,000 + $220,000 = $400,000

At a gross margin of 45% (which means direct costs are 55% of revenue), you need: $400,000 ÷ 0.45 = $889,000 revenue

Now check capacity. At $200/hr billing rate and 85% utilisation across 2.5 FTE (owner + 1 staff + subcontractor hours equivalent), you have approximately 4,760 billable hours per year. At $200/hr, that's $952,000 — the numbers work.

But if you're currently charging $150/hr, you're looking at $714,000 revenue maximum — $175k short of what you need. The solution is a price increase, not more hours.

When the Numbers Don't Work

If the reverse calculation produces a revenue target that's beyond your capacity, you have three options — and only three:

1. Raise prices — increase your billing rate so the same volume of work produces more revenue
2. Reduce overhead — cut costs that don't affect delivery quality (subscriptions, discretionary spending, renegotiating contracts)
3. Accept a lower profit target — consciously, with a plan to close the gap over the next 12–24 months

What isn't a solution is hoping revenue will grow without changing anything. Hope is not a financial strategy.

The Overhead Audit

Fixed costs are the enemy of flexibility. Every dollar of overhead is a commitment you've made regardless of what revenue does. Before accepting a lower profit target, run an overhead audit:

• List every expense from your last 12 months P&L by category
• Mark each as essential (can't deliver without it), useful (saves time or creates value), or discretionary (convenience or habit)
• Challenge the discretionary items first, then the useful ones
• Look for subscriptions auto-renewing that aren't being used
• Check whether any service contracts can be renegotiated

Most businesses find 5–15% overhead reduction in an honest audit. At a 45% gross margin, every $10k saved in overhead drops straight to the bottom line — it's the equivalent of $22k in additional revenue.

Capacity Planning: Understanding Your Ceiling

Before committing to a revenue target, understand your actual capacity. For a service business, capacity is:

Available hours × billable rate × utilisation rate = maximum revenue

If the owner works 45 hours per week and can realistically bill 28 hours (62% utilisation after admin, sales, travel, and management), and the business has two staff each billing 30 hours per week, total billable hours are approximately 4,600 per year.

At $220/hr, maximum revenue is around $1.01M. If your reverse-calculated target is $780k, you have headroom. If it's $1.1M, you need to hire before you can hit the target — and hiring means overhead increases, which changes the model.

When to Hire vs When to Price Up

These are two different problems that look the same:

• Capacity problem: You have more demand than hours. The solution is to hire (or contract) to create more hours. Revenue will increase.
• Margin problem: You have enough hours but the rate is too low to produce the profit you need. The solution is to raise prices. Same or less revenue, more profit.

Hiring when you have a margin problem makes it worse — you've added overhead without fixing the underlying rate. Run the reverse profit calculation first to identify which problem you're actually solving.

The CFO View: Model Scenarios Before You Commit

A CFO doesn't just report on what happened — they model what could happen before you commit to a decision. Before adding staff, before signing a lease, before launching a new service line, the question is: what does this do to the profit model?

The reverse profit calculation is the foundation of that modelling. It tells you what needs to be true for a decision to work — and it usually surfaces the key variable (price, volume, margin, or overhead) that's driving the outcome.