A lot of things in the modern world don’t make sense.
Why do people obsess over the shape of their bodies while cramming ice cream down their necks?
Why do governments lockdown economies to stave off a virus while simultaneously sending people off to war?
Why do companies continue to advertise in annoying ways that damage their brand?
We could carry on like this all day. But there is one area where things really don’t stack up, and that’s the general dislike and unease with profit.
All companies, sole traders and partnerships are in the business of making money. In fact, there is no other way that things could be. Firms that don’t care about profits run out of cash fast and go out of business. We don’t hear about them because they die before they ever make it to prominence.
Despite the importance of profit to companies, private individuals, and the world in general, it is still a bit of a dirty word. But why? As you’re about to find out, profits are essential. They do a lot of good, and we need them.
Profit Indicates You’re Creating Value
Profit isn’t something that old men in suits smoking cigars keep in rolls of cash under their mattresses. Instead, it is a sign that an enterprise is adding value to the economy.
To make a profit, you have to create more resources than you consume. In other words, your revenues must exceed your costs. The more profit you make, the more value you’re adding, relative to the resources you consume.
People who make a profit are actually the most valuable agents in the economy and society. The amount of profit they make is an indication of their net contribution to wealth. It is the excess money that accumulates in their account as people purchase their services and thank them for what they receive in return. The entrepreneur who doesn’t spend this money creates a fundamental basis for wealth.
Profit Supports Tax Revenues
Imagine if there were no profits in the economy, either at the company level or the individual one. Everyone would be losing money, and there would be no surplus to tax. (You can’t tax a loss).
You can discuss the difference between S Corp and C Corp for tax purposes all day long. Still, if people aren’t making money, then the entire government system fails. No taxes means no police, army, health services for the poor, roads, or anything else provided by the state. Private citizens would somehow have to figure it out by themselves – and it is not clear whether they would.
Profits, therefore, are something that many believe support the wider society. Businesses make money, then the government takes a share and plows it back into the community after siphoning off some of it for itself.
Profit Allows Companies To Borrow Money
Companies are always on the lookout for new opportunities on the horizon. As technology advances and consumer tastes change, new possibilities open up.
Firms, therefore, sometimes need to borrow to fund new products and services. But if there are no profits, then getting that money is impossible.
Think about it. Imagine if a company was losing money, and would continue to lose it in the future, no matter what. No bank or venture capitalist in their right mind would lend to them because they would never make any surplus income to pay them back.
Profits, therefore, are essential for the advancement of technology at the firm level. If companies don’t have extra resources, they can never move forward.
Profit Is Essential To Attract Investors
Small businesses are great. But companies that have the most significant impact are often those that grow rapidly, sometimes all over the world.
Growing fast, however, takes cash – a lot of it. And many companies don’t have sufficient revenues to fund their expansion plans in-house. They need investor support.
Owners of capital, however, want to know that businesses are going to pay them back, just as with borrowing. So if firms don’t stand a chance of making money, nobody is going to part with their capital.
You can probably think of other reasons why profit is essential in addition to those in this list, but we’ve discussed most of the basics here. Companies that aren’t adding value to society don’t last long. Employees don’t want to work for them. And investors refuse to lend them their capital.
Profit isn’t a dirty word. We need it to keep the wheels of the economy turning.