Many business leaders pay little attention to their accounts and what they might be saying. Part of the reason for that is that accounts done solely for tax purposes, and done once a year, are of little value turning your business around. It’s a case of too little, too late. Learn how to locate business problems and measure change with your accounting system.
This Lesson is for reference purposes than for immediate assistance turning your business around.
As you move through this Course, you are likely to have a number of “if only” moments. A speed read of the contents of this Lesson will help you understand what a help your accounts can be. Once you have turned around your business, you can put what you have learnt about the need for decent accounting information to good use. Overhaul your accounting system to make it useful for management, rather than just tax purposes.
Getting More From Your Accounts
Were you surprised at what you found, or did not find, when you first seriously looked at your accounting records?
Chances are they gave no indication of looming problems and they didn’t answer the questions you had when the problems turned up.
There are three take-aways you should address to reduce the risk of future problems. Design a warning system into your accounting framework.
Increase the frequency at which you look at your accounting results so that:
- You are less surprised.
- You can respond sooner to any positive or negative change in the trends from your reports.
When you are in a crisis period, and especially a cash flow crisis, a weekly review of your cash flow is wise.
Once you are sustainable again, a monthly review will probably suffice to show any looming problems. It is better to spend an hour a month finding problems than months trying to fix them when they show up unexpectedly.
If you have not put much thought into your accounting system, it is likely to be set up to help your tax accountant do your annual tax return.
For management purposes, tax accounts are largely decorative. A good Profit is a bit like a trophy! But these accounts will not tell you much about what got you to success and what problems are looming.
For that, you need to use Management Accounting. It’s really no harder than what you are doing now and it is far more useful.
You can read our resources on Management Accounting on this link.
Scan it quickly now so you learn what might be. Come back later in the turnaround process. Think further on setting up an accounting system to indicate looming problems much sooner.
Measuring Critical Events
We encourage you to give thought to the things to look for when reviewing your records.
They are called “metrics”, referring to the fact that they measure things.
The Manual Way
You can monitor your critical numbers using spreadsheets. Following is an outline of a typical system you could build.
Earlier, we talked about four major items:
Sales, Operating Costs, Overhead Costs and Cash Flow.
Open a simple spreadsheet listing each of these figures for each month.
- Spend time each month looking for trends.
- If something is improving – spend time thinking about why it is improving.
- You can maximise that improvement.
- If something is worsening, catching that fact early allows you to try to do focused remedial exercises to improve it.
We also discussed the value of calculating Gross Margin in the discussion on Operating Costs.
Don’t spend a lot of time on your Spreadsheet now. It will not help you survive right now.
Once you are over the urgent issues, start to build a spreadsheet; or have your accountant do it for you.
It will change and grow over time so don’t expect to get it all done in your first pass.
The Easy Way
One of our tools, TrendBoard, is designed to do all these calculations for you automatically. All you have to do is enter about a dozen numbers once each month, quarter and year.
All the important trends in your business are shown in graphical format. TrendBoard comes with its own Diagnostic tools that help you understand what the graph is telling you.
Your numbers are going to move in different directions and that can be very confusing. What does it mean when your Revenue is going up but your Profit is going down?
A great way to make sense of all the variation that is going on is to use Ratio Analysis.
This compares two important numbers (say Revenue and Gross Profit) and tells you if they are getting better or not.
TrendBoard comes with these built in. If you want to learn more, or select some for your spreadsheet if you are using one, learn more about important ratios on this link.
Focus on the Right Metrics
It is easy to focus on the wrong ‘metrics’.
Many people focus on two “vanity” metrics that sound good but can give the wrong impression.
- You sell $100 worth of product, which sounds great.
- If it costs you $101 to produce that product, you are actually going backwards.
- Income is not a good measure of the health of your business.
- A less than ideal measure of the success of your business.
- By the time it has had various treatments for taxation purposes, it may not reflect the actual health of your business.
One safe metric of your financial position is your Cash Flow.
- This is your ability to convert labour and raw materials into cash at the Bank.
- It is the volume of money hitting your bank account.
Learn more about Cash Flow at the Diagnostics Menu:
As mentioned above, you likely should not spend a lot of time on this Lesson. However, it is useful for you to understand what can remedy the information problems you are coming across. Make yourself notes about issues arising and later come back and set your accounting system to be of more use.