Profits or growth? Selecting the right strategy for your company

It's a question as old as business itself: Should you put profits into your pocket or back into your production?

Choosing between keeping profits and spending them on company growth has always been tricky, but the hyper-growth made possible by the Internet presents even more considerations.

Fast growth takes a lot of money, usually all of your profits and then some. And while some investors are eager to fund high-growth companies, others prefer businesses that hold profits tight.

It wasn't so long ago that Amazon.com founder, Jeff Bezos, bragged that his company didn't need to be profitable. Why? Because he knew that the growth possibilities in online commerce were nearly limitless. He didn't want to amass profits; he wanted to build a giant company and grab market share.

In fact, Amazon spent five unprofitable years (1994-1999) building more than $1 billion in sales before posting its first quarterly profit.

Bezos was right. He made a smart decision to go for growth, and the venture capitalists lined up to invest. That's what VCs do. They invest in growth, hoping that a bigger, faster-growing company will ultimately be more valuable. They invest for the long term, relatively speaking.

Choosing Profits

Other companies, take Apple for example, choose to grow more carefully and pocket the profits. Like Microsoft and other tech giants, Apple has amassed an astounding amount of cash as a result. Because stock market analysts reward profits and cash, this strategy is common among large public companies.
Profitability is also nice for the small family-owned company. Not every business has to end up on the stock exchange. Plenty of fortunes are made by running a lean business day to day and squirreling away the profits year after year.

Making a Decision

To decide between profit and growth, a private business should look to the shareholders and their long-term goals. If there is just one shareholder (you), the decision is pretty simple: Are you in business to support your family and lifestyle, or are you aggressively building a business to change the world?

A lifestyle business has to throw off profits to the owner. Business growth is naturally limited by the amount of profit the owner needs to pay his own bills. Eventually every lifestyle business defaults to prioritising profits.

A bigger, "world-changing" business strategy puts substantial financial pressure on the stockholders. They must have the stomach for a long-term investment and be willing to live without profits (dividends) for several years. They might also have to give up some of their ownership to invite in new investors, in effect, trading a piece of the pie now for a much bigger pie in the future.

Deciding whether to go for growth or pocket the profits should also be weighed against the kind of funding available to the business. Bezos at Amazon chose growth knowing that VCs could be counted on to prop up the unprofitable company. If your business is not a good venture capital or angel investment candidate, this could be a dangerous path.

Profitable companies attract a very different kind of capital. Private equity funds, commercial lenders, even neighbourhood banks all love to put money into highly profitable enterprises. Paradoxically, some of these same bankers will even finance growth once the profit model is proven and reliable. But in all cases, profits have to be pretty strong and steady.

Staying the Course

Either strategy can provide a great way to build both personal wealth and a healthy business, as long as you are clear about it and dedicated to the path forward. The real danger comes from wavering and trying to do both.

A high-growth company that slams on the breaks to harvest profits becomes a disappointment for the venture investors. Likewise, a profitable company that suddenly plunges into a loss situation to finance growth appears too risky for bankers. Moving from one mode to the other is a sure way to stumble.

Selecting the right path for your company can be an emotional decision as much as a financial one. But not deciding is not really a choice. Set the course and stick with it.

By David Worrell of AllBusiness.com
Learn more about small business issues- visit AllBusiness.com

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