Don’t Rely on Luck: Key Insights Hidden in Your Financial Statements
According to legend, if you catch a leprechaun, he must tell you where he hides his treasure, behind which specific rainbow he’s squirreled it away. He has to tell you the truth – but if you don’t keep your eye on him constantly, he’ll disappear. And if you don’t ask the right questions, he can lead you astray.
As a CEO, your financial statements do much the same thing: they will give you the information you need to achieve financial growth and sustainability, to find your pot of gold, if you will. But you have to keep your eye on them constantly; you have to know how to ask the right questions; and you have to know how to.
Building a Sound Financial Foundation
They say men are from Mars and women are from Venus. Martians, Venetians, leprechauns: we’re covering all the bases today. Well, CEOs and CFOs, too, often inhabit very different planets. The same set of financial documents can yield different readings: without a strong financial background, a chief executive officer may not extract all the relevant, and vital, information about his or her business.
Bernard Katompa, an international business leader now with Heritage Insurance Company Limited, says:
“The CFO has to be the brain of the organization and get the other parts of the body to be healthy and grow. The CEO is the head and the head needs a brain in it. As CEO, I listen to my CFO because I have hired a brain. When I was a CFO, I had an open door to my CEO.”*
How can CEOs utilize their “brains” more effectively and begin to use financial documents as key business tools? A few steps we work on with leaders:
Develop Key Metrics: Differentiate Between Cash and Accrual
We might develop liquidity metrics and go into detail with CEOs, for instance, on the difference between cash and accrual. It’s basic, but some CEOs don’t know the difference, or know that they need to know the difference. Often, accountants prefer to have everything done from a cash perspective, but that doesn’t give a complete picture of a business’s financial state.
Why not? A business can manage its financial situation on a cash basis by simply not paying bills on time or by collecting money faster or slower. But if they start to look at matching revenues and expenses and examining how the business is really doing, a different – much more complete – picture emerges.
We start by educating CEOs on cash versus accrual and ensuring their financials are in good shape. This is often a challenging area for small, privately-held companies. Overcoming this obstacle is a key step in building that solid foundation.
Identify and Assess the Lines of Business Within Your Company
What does your company do, and what services do you offer? In an insurance company, for instance, there might be multiple lines of business: e.g., fire, health, liability, auto. The number of lines of business varies from industry to industry, and by geography.
Liability insurance regulations, to use our example, are very different in Maryland than they are in Massachusetts or in Oregon. In this case, CEOs might look at geography as lines of business. Understanding the gross profit margin and profitability of each line is critical.
Set Up Systems to Capture and Manage Information
While there is no magic number dictating the number of lines of business a company should have, or can have, three to five is manageable in terms of measurement – and measurement is critical. We work with CEOs to structure their financials so they can keep on top of the profitability of key business lines as well as overall. This allows them to adjust pricing. For instance, maybe they weren’t charging enough for a certain line of business and can adjust it upwards.
And what if one line of business is a dog? If CEOs have them all in one bucket, it can mask the fact that one is losing money. Now, sometimes the business needs a dog to act as a loss leader for other lines, but CEOs have to go in understanding the profitability of each line individually and how that contributes to their overall strategy.
“May your pockets be heavy…”
Sound financial health and sustainable growth is dependent on much more than luck. Like a leprechaun, accurate, timely financial documents will tell you the truth. You just need to know what to ask of them. These steps will help CEOs work with their CFOs or financial team more effectively and make informed, strategic decisions about their company’s future.
*Source: The New CFOs: How Financial Teams and their Leaders Can Revolutionize Modern Business By Dr Liz Mellon, David C. Nagel, Robert Lippert, Professor Nigel Slack
Tags: Business Growth, Cash Management, Financial Foundation, financial growth, financial statements, growth strategies, Heritage Insurance Company, increase profitability, key business tools, Manage Information, maximize profitability, Outsource CFO, strategic decisions