4 Tips for Understanding the Financial Health of Your Business
As someone who has been involved for the last two decades in founding and building businesses, I know that a lot of times business leaders have to make decisions based on gut feel. I still do that - but I don’t make decisions off gut feel alone - I like to look at the data first.
If you have data at your fingertips which reveals the financial health of your business, it doesn’t mean you automatically know the right answer to every question. You still have to choose between options - do we open a new support office in San Francisco or São Paulo? There are generally pros and cons for both. But if you can predict the revenue and cash flow of your business, and you can see the relative cost and benefit of those options, you can make a better-informed decision. And in the long term, data-informed decisions are likely to be right more often.
When a business is successfully through the very early stages of starting up and ready to scale, it makes a great difference to the speed and efficacy of the decision-making process if accurate data on the financial health of the business is easily available whenever people need it. That is vital if you want to build a fast-growing business.
If you don’t have ambitions to expand, then you might be able to manage by gluing spreadsheets together and not spending so much time looking ahead.
But if you are an entrepreneur or a business leader who wants their organization to be ready to onboard and deliver value quickly to many new clients, who is looking to recruit and retain talented and motivated employees, and you want to be ready to invest in innovative products or services - you need to take a more strategic approach to finance. Here are some of the main points to consider.
1. Rolling Replanning
Shareholders and other stakeholders may still require annual budgets and they are useful as a stake in the ground, but maximizing company performance requires a more dynamic finance approach. In a similar way to how project management moved from the “big bang” launch and the waterfall style delivery to the more iterative approach we call agile, many businesses today are taking a more responsive and nimble approach to their financial processes.
Instead of putting all their energy into creating an annual budget, they constantly plan and replan basing their adjustments on the real-time data that is in the system. Leveraging live transactional level data from accounting, sales, operations, and finance leads to the rolling plan and helps everybody stay on the same page, empowering them to make the best decisions possible.
This means the business is always adapting to what is happening and the forecast is always current.
2. Manage Cash Flow
There is a saying that cash is king, and when you are growing a business this is certainly the case. Financial plans must have a cash flow projection that is granular, consistently updated, and dynamic. It may sound simple, but it’s very complex.
Cash flow is not taking a look at your account balance on the bank website and making a decision. It involves really understanding payment terms, payment frequency, revenue recognition, and so on.
Having a tool in place that enables you to manage all of this, and that also enables you to make changes when things don’t go as planned, is critical. You cannot usually control when a customer pays you, so you need to have the flexibility to adjust.
Business leaders who truly understand their cash flow are in a better position to make data-driven decisions about investment, recruitment, and expansion.
3. Don't Only Focus on Historic Data
Ensuring you are following generally accepted account practices is certainly important for so many reasons. The last thing you would want is to fail an audit or have the IRS not happy. This accounting work is very detailed and very technical. It absolutely plays a vital role in understanding the financial health of your business.
With that said, accounting data tells you what has happened and not what is going to happen. Forecasting and planning provide that view into the future. A solid financial forecast enables you to leverage historic accounting data to influence what you think will happen in the future. This sounds great, but the past doesn’t always determine the future - look at 2020. In order to make the best forward-looking forecast, you need both historic and future transactions. You also need the ability to easily review and manage variance.
Variance is actually the key in determining the credibility of your forward-looking forecast. If you can really dig in and understand why what you thought was going to happen is different from what actually happened, you will have a much better understanding of if the forecast is correct. Reviewing these variances in real-time enables you to also make adjustments to the business in real-time to maximize opportunities or reduce risk.
4. Break Down The Silos
In many organizations, it is difficult and time-consuming for the finance team to access up-to-date information from other areas of the business. They can’t see what the sales team is working on, they may have to make phone calls or attend meetings to discover what is in the pipeline or to check if the information they have is up to date.
Equally, it can be challenging for people in other areas to get information from the finance team - they have to submit a question and wait for the answer. That makes it very difficult for people to make decisions that meaningfully impact the performance of the business. All they have is gut feel. That might be enough if there are three people on the staff and you can look across the office and chat with them at a moment’s notice - but it is not going to be enough for a business that is growing fast.
Growth-minded businesses must ensure that the technology and workflows are in place to democratize the right data for the right people.
Dynamic Finance Underlies a Dynamic Business
A strategic approach to finance gives growing businesses a competitive advantage. That’s particularly important for an organization that’s looking to scale. Someone going for a stroll in the park doesn’t need to make the same preparation as an athlete getting ready for a big event. Similarly, cash in the bank is like fuel in the tank for a racing car. Dynamic finance is the engine that powers a dynamic business.
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