Management Retreats

The Fremont Group recently surveyed small business owners and found the following results: only 5% of small businesses held an annual management retreat however those companies that did listed it as one of their most beneficial activities. Small business owners with fewer than 100 employees—some with only 10—found that a properly run management retreat was a critical part of their success. They also felt that it was most important in times of difficulty (i.e. recession).

What is a management retreat? It really is as simple as taking your key employees away from the office—sometimes for only the day but more likely for two days—and, with a set agenda, involving them in the planning process of the company. For the companies that do this they get ideas and buy-in from their key people that is invaluable. The Fremont Group consultants are trained in facilitating such events. They meet with you and together determine an agenda and a budget and then are the facilitator in the meetings. They also host some part of the sessions in which you are not present. Following the retreat they assist with the follow up.

What gets done? Think of it like this—we often go to individual employees and ask them, “What could be done to help them in their job? What are their goals? How do you think you could achieve those goals?” This type of questioning often brings out key information that help you run the company. At a management retreat we are doing the same thing only doing it by department instead of by individual. When tied down the department managers almost always set the bar higher than we would have ourselves. Then we develop a plan to accomplish these goals and train them to “trickle down” the actions to the individual employees in their department. This creates a focus upon significant change and upon “their” results. A second, and equally important benefit is the elimination of communication barriers. Your key people feel more informed and empowered and therefore produce more.

Who should attend? Your management team members are your “climbers.” The management retreat is one of their ladders. Invited should be (minimally) the head of sales, operations and finance. They, together with their key people, will get out of the office and come back more focused and productive then ever.

Call the office to discuss using Fremont to facilitate your annual retreat.

The value of planning

by Neil Friedman
The business plan is your statement of purpose for your business. You can’t forget the reason to be in business.

Every football coach tries to devise a winning game plan. Even the best athletes will fail if they don’t have a game plan that is designed to maximize their strengths and minimize their weaknesses. Concurrently, that game plan must take full advantage of an opponent’s weaknesses and make every effort to negate their strengths. In the business world, the best game plan (business plan) coupled with superior execution will deliver a winning effort—a profitable and growing enterprise.

A business plan is your roadmap to a viable and profitable business. Too many view it merely as a document to acquire an investor or financial institution to fund their dream, but if it is properly used, it can be the difference between success and failure. There is a reason why so many preach that it is an important part of your success, so don’t neglect it. Used as a tool in your company, a business plan should be a frequently utilized document that helps keep you on track and headed towards the goals you have set.

The business plan is your statement of purpose for your business. Simply stated, the purpose of any business is to make money. A goal of any business is to not only grow sales, but more importantly, to grow net profit. A successful business is a well-managed company that has a preplanned profit. No business can exist over the long term without consistent and growing net profit. Therefore, you shouldn’t increase sales without growing profit. It is far easier to manage a million-dollar business making $100,000 net profit than it is to manage a multi- million-dollar business making that same $100,000.

Business is based upon providing a quality service and product to customers. Most business owners are typically not taking advantage of all the available customers in their service area who are seeking a quality company that keeps their promises and charges a fair price for reliable work.

The lifeline of any business is the energy and commitment that its employees display on a daily basis. A business cannot prosper without the energy and commitment necessary from all its employees. If you cannot tell someone specifically what you expect from them, then you cannot expect specific performance from them. Planning, projection (allocation) and measurement are invaluable tools and are required in any business.

Accurate information and measurements are also mandatory for any business, as they are vital to success. The operations of a business must be measured, evaluated and controlled. Knowing the value of the products and services offered is vital to the health of any company. How can a profit be made if each item in the product mix doesn’t have a known breakeven point and preplanned profit?

Members of a business have a responsibility to themselves and to the company. In addition, the business has the right to be run as an efficient and profitable company so that the employees can be taken care of now and in the future.

If the previously mentioned statement of purpose is addressed in your business plan and the plan is followed, you will be successful. Therefore, it is important to create a business plan and use it.

Included in a business plan should be a specific marketing strategy. You know what you want to do to make money, but you must find those who will pay you to do it. This is where your marketing plan comes in. The marketing plan is a process and, just like any process, you have to start somewhere, but where? How about at the end? To get where you want to be, you have to know where you are going. So where are you going? What is your goal? Where do you want to be in five, 10, 15 or 20 years?

After establishing a goal, the next step in the marketing plan is to understand where you are at this point. What is the current state of your business? Is it a leaking rowboat or a luxury cruise ship? If you must transform that leaky rowboat into an efficient ship, then the process will take more time and be more laborious. Getting started is easier once you have an understanding of the current state of the business. Simply start with a goal. The route to the goal is what the sales and marketing plan will decide. If you have any doubt about the goal, straighten that out first.

It is extremely important to note that if you currently have no goal, you need to set one. This is the end toward which all your effort is directed. The route to the goal must be dictated by the product or service provided. Determine who needs or wants the product or service that is to be provided. Finally, determine how to “build a better mousetrap” by becoming the best in your service area.

It is important not to shortchange any step of this process. If you do, it may take longer to complete the project as you find that incomplete research simply will not suffice. You must have the tenacity to perform a documented and regimented routine to have a marketing plan that works — and that plan takes a considerable amount of work. The following steps must be taken in the development of a plan. This is not a roadmap for developing a sales and marketing plan, but a brief outline of the process.

Review and Assess

  • First, analyze the company (an objective look at the strengths, weaknesses, opportunities and threats facing the company). Review how well you actually do what you are in business to do. Analyze what you have been doing to market your products or services.
  • Review the major functions within the company and those companies that provide services to you.
  • Review the sales process, sales trends, delivery of your products or services and pricing. Look at the results for your company and how you stack up against your competition.
  • Assess the company’s market reputation.
  • Within the business and target market, make sure that the positive and negative opportunities are reviewed and assessed.

With the help of your sales staff, determine where you are targeting your sales effort. What are the markets and objectives and who are the decision makers?

Plan the strategies that position your brand to effectively dominate the market. Every company has a brand or brand name whether they know it or not. Can you accurately and precisely define your brand?

Set the target for an effective communication policy.

Establish or review and validate or change the following:

  • The product or service name;
  • The product packaging;
  • The product or service pricing;
  • The method of distribution;
  • The method of selling;
  • Promotion and event policy and planning;
  • Advertising themes and possible media to be used including Internet;
  • Merchandising methods and policies; and
  • The handling of public relations for positive and negative events.

Establish an advertising/marketing/sales budget, methods to analyze its effectiveness and the timetable for it.

Put the plan into effect.

Evaluate the plan and provide systems to monitor and, if necessary, to alter the plan.

Business is a continuous series of processes. It doesn’t matter if the process is marketing your brand or making factory production flow as efficient as possible or controlling accounts receivable. All must be managed and be part of a planned business. Having a plan and properly executing it can be the difference between success and failure.

Developing a business plan takes time, considerable thought and decisive action. Once again, it can spell the difference between success and failure. This is not a one-day exercise—it is your company.

Have We Forgotten Profit?

Traditionally when someone started a business they struggled. If they were lucky (and good) they achieved enough results to stay in business for awhile and eventually to prosper. For those companies that reached this stage they then commenced upon the tried and true strategy to acquire wealth for themselves and for their children who were being groomed to succeed them. They made sure that they made an adequate profit; that they maintained strong, positive cash flow; and they plowed those funds back into the business–for expansion of inventory, purchase of long-term assets or merely into additional retained cash. This made complete sense because their objective was to build something that would survive beyond themselves. The result of this focus was the development of thousands of strong, small businesses—the backbone of the economy.

Fast forward to the new century. We had just completed an economic boom that was unprecedented in the history of our company. Fortunes were made but those fortunes were concentrated in the financial sector of the economy. The new mantra for the entrepreneur (they are no longer small business owners) is let’s get our idea to market first; let’s create a marketing plan; and let’s sell (or do an IPO) as soon as possible so we can get rich quick. This was fueled by thousands of persons who were able to do just that—but they weren’t plumbers. Such opportunities for wealth are either inherited or emerge from changing technology. Unless you are in a position to benefit from changing technology (or an obscenely rich relative dies) this plan won’t work. Most of today’s young small-business owners are trying to shove a square peg through a round hole.

Our advice to anyone starting a company is to forget the idea of selling out and getting rich—statistically it is almost impossible. You would be just as well off buying lottery tickets and we all know the expression, “if you business plan includes winning the lottery you need a new business plan.” Unfortunately the get rich quick mantra has created a generation of owners who do not really know how to make a profit! Amazon didn’t have to, why do we? Because you aren’t Amazon!

How sad it is that of the last 100 small businesses I have been in fewer than five had a functional budget designed to produce a desired pre-determined profit. How sad it is that most of them didn’t even have a budget! How sad it is that I am yet (in over 4,000 small business analysis) to come across a company with a rational, excess-profit based incentive program for employees. How sad it is that these same owners have no clue as to how they can even hold their people accountable! The Fremont Group examines these and other basic business concepts in our Minding My Own Business Workshops. If you can’t attend—buy the book. And then refocus our efforts in the next year to acquiring wealth by earning a profit rather than from winning the lottery.

I JUST DON’T HAVE THE TIME…

Everyone has one-hundred sixty-eight hours in a week—how come some people find the time for family, some people find the time to attend workshops, and some people find the time to run more than one business yet others work excessive hours, don’t get out and seem to just live with results that never change?

In “Minding My Own Business,” author Dirk Dieters examines with the attendee the six responsibilities of a small business owner and applies those principles to the attendee’s business. Like other authors and experts, Dieters does not list as one of those responsibilities the requirement that the owner invest all of their efforts and time in the performance of the technical tasks in the business. Your responsibility as an owner is not to do other people’s jobs but rather to lead the company. The business climate is difficult and there is only one guarantee—that the rate of change will accelerate. You have a responsibility to keep your company ahead of that curve. Are you investing the time required in this responsibility? The Fremont Group focuses you by teaching you that there is only one reason for your business to exist—to make your life better. When was the last time you made the effort to look at your business? How is your business making your life better? How is your business making your life worse? As a business owner decisions are actually very simple—we build upon the things that are making your life better and rid ourselves of the things that are making your life worse. To make you a better business owner, The Fremont Group presents the acclaimed “Minding My Own Business”™ workshops. These are customized sessions for business owners only. Attendees universally agree that they leave with not only a better understanding of their business but also with specific actions that will make an immediate difference in their company. Yet the Fremont Group salespersons often hear the objection, “I don’t have the time.”

Irrational decisions are most often the product of either fear or denial. Fear causes poor decisions; poor decisions lead to poor results. We can be afraid of many things—we can be afraid of being wrong. What if the workshop does not provide me with anything that builds upon the positives or rids us of a negative? We can be afraid of repeating a previous mistake. What will people (employees, family, etc.) think if it turns out to be another expensive venture that doesn’t really help? We can be afraid of being weak and at risk of being “talked into things.” People are already questioning my decision-making—what if this is a mistake? And we can be afraid of showing weakness. I am not going to admit that I might benefit from outside help. Companies go where the owner leads it. If it is led by fear it probably will never go where you want it to.

Some may classify denial as a form of fear, however I think that it deserves a classification of its’ own. It is a natural human trait to postpone difficult actions as long as possible. We hope that if we ignore a problem that it will go away. This is the equivalent of being hooked on drugs—we call it “hopium.” Unfortunately it sometimes works—and this just hooks us more. Hopium can paralyze. Just “hoping” that things will change can create a death spiral in a business. Rarely is the confrontation as painful as the problem itself. Things happen when we make them happen. Change takes place when issues are addressed, confronted and solved in a systematic method. If we wait and “hope” for change, we are allowing hopium to control our fate. Denial doesn’t solve problems and your employees know it. They expect to receive training and respect the fact that you seek continuous training in your job of leadership.

We all have the time—it is an allocation issue. Would attendance at the workshop help you build upon the things that are making your life better? Would it help you rid yourself of things that are making your life worse? If the answer is yes to either then choosing not to attend is not a rational decision. Allocating time to anything other than these two objectives is not going to move either your business or your life forward. So why make an irrational decision? In less than three hours you can do something that can make a difference—what else are you really going to do that could change your business and your life? Oh, I forgot—you don’t have the time.

Dirk Dieters is the owner of The Fremont Group, a small-business management coaching firm in Aurora, Colorado. Mr. Dieters has an undergraduate degree in Business Education from Michigan State University and his law degree from Detroit College of Law. He has worked in management consulting since 1995.clip_image002 The Mission Statement of The Fremont Group clearly states his objectives: “The job of The Fremont Group is to make the lives of our clients better through a knowledgeable, trustworthy, truthful, empathetic, forward-looking and focused relationship.”

Mr. Dieters played baseball at Michigan State; coached baseball at Oakland University in Rochester, Michigan; has owned his own small businesses; and at various times has held real estate and series seven licenses. He is married with five children and is the author of the book “Minding My Own Business” published in 2005. He also hosts “Minding My Own Business” Workshops designed for small-business owners nation-wide. He has published articles for the Institute of Management Consultants. Visit their web site at www.the-fremont-group.com.

© The Fremont Group 2007

The Fremont Business Operating System

Attendees at a “Minding My Own Business” Workshop have been exposed to the Fremont Business Operating System.  This system is the baseline for all management consulting performed by affiliates of The Fremont Group.  It starts with a clear identification of your goals—and the goals of your spouse.  What is it that you really want from your business.  Once the reason for your business to exist is identified, a financial model of your business must be created.  What results are required in order for you to obtain your goals?  Many small business owners operate like the football coach with a game plan that reads, “if everything goes right we will only lose by a touchdown!”  That coach won’t keep his job for long and the business owner who doesn’t have a game plan designed to win the game won’t survive long either.  From the development of the financial model it can be identified (1) if the goals are obtainable; and (2) the results that must be accomplished in order to obtain the goals.  This model then becomes the cornerstone of the company.  It is the basis for organizational structure—what results are required from each position, the communication and evaluation of those results, accountability, and incentives.  It creates the profit plan and the sales plan.  It is the basis for pricing—the use of break even pricing and the establishment of pricing models.  The financial model is a road map that you modify as you make wrong turns—after all, man plans and God laughs.

Put together, FBOS is your strategic plan.  Owners who operate without it can be successful—particularly if they are lucky—but those who operate with it and diminishing their reliance upon luck.

Note–Fremont Business Operating System, FBOS and Minding My Own Business are registered trademarks of The Fremont Group

Do You Own A Job or a Business?

When the owner is spending more time doing other people’s jobs than he is doing his own he has a problem. His job is to run the company and when he is doing other people’s jobs, he isn’t doing his.  Working in the business means doing the tasks that should be done by and employee. Working on the business means doing the tasks that should be done by the owner. The owner who does employee’s jobs doesn’t own a business he owns a job.

An owner starts his own business in order to achieve his goal of being his own boss. He discovers that he may not have a direct supervisor anymore but his income is still dependent upon him performing the same tasks that he performed in his employment and in addition to that he is swamped in “paperwork” and employee problems. He may (or more likely may not) have a greater income, but his hours and responsibilities are so greatly increased that all he has is a bigger job than the one he left. If he had put in this many hours and this much effort for his former employer he would probably be ahead of where he is now. All that he tried to achieve was self-employment and he has achieved that.

There is a significant difference between owning a business and owning a job. Having a business means that he makes his money off the efforts of others, rather than off the efforts of his own. You should make money off of every employee; therefore any business with employees should make money.

Owning a job

Some people are content with a job. As long as they are content with the hours, inability to get away, and their current compensation then they need not be changed. When a person has a job they end up with excessive work hours. They are doing the job of one or more employee and trying to do their own job (run the company). They cannot get away because systems and controls have never been established that allow them to delegate the functions of operations to others. They have no way to really know that the functions are being properly done without being there. Their compensation is limited to the number of hours that they are willing (or able) to work. They have no hope of opening a second location because the operations depend upon the personal attention of the owner and he can only be in one place. They can never sell their business because they are the business. If they left, there would be no business. Eventually the assets are sold but they years of sweat equity go uncompensated. They are good at some of the tasks and not as good at others. As their business grows they are required to do more and more tasks that they are not good at. Eventually they get overwhelmed, fail to grow and die.

Owning a business

A business owner owns a few hard assets and his systems. Why does a 1000 square foot building sell for hundreds of thousands of dollars if it is a McDonalds? Because it has ironclad systems that produce a pre-determined return based upon location. McDonalds is completely SYSTEMS DEPENDENT. Most small businesses are PEOPLE DEPENDENT. McDonald’s systems allow for the least qualified person in each position and they are so strong that the people are irrelevant to the success of the business. Most small businesses purposely become dependent upon the most qualified person in each position and become held hostage by their employees. Since the value of most small business pales in comparison to the value of McDonalds, we can assume that a SYSTEMS DEPENDENT business is better than a PEOPLE DEPENDENT business. This can only be achieved through a conscious effort on the part of the owner to do his job rather than other people’s jobs.

In order to own a business you must try to own a business. That means that significant time and resources must be spent working on the business rather than working in the business.

Fremont Offers Extraordinary, One-Time Discount On “Minding My Own Business Workshops”™

The Fremont Group, a non-profit corporation dedicated to bringing quality and affordable management consulting services to small business owners, is using a substantial grant to subsidize workshops for small business owners. The workshops are based upon the book, “Minding My Own Business” written by Dirk Dieters specifically for small business owners. Regularly $875.00 the workshops are being offered from July 15th through Labor Day for a Summer-Recession discounted priced of $150.00! The workshops are one-on-one sessions—just you and the professional for 2-3 hours where each aspect of your business is examined. You learn the six responsibilities of a small business owner and are able to rate yourself in each category. Additional follow-up work is also offered on a sliding scale according to ability to pay.

“Minding My Own Business Workshops”™ have been successfully presented in nearly every state. Success is defined as the owner agreeing that they are leaving with something that they can immediately use to make a difference in their business. If that standard is not met, your fee is refunded. An $875.00 fee has never been refunded.

Take some time to examine:

  1. What is the minimum, mandatory percentage of profit that your business must make? Do you have a plan in place to produce it? What is your planning process? How do you hold yourself accountable?
  2. Do you have cost controls in place that will produce that minimum, mandatory percentage of profit? How do you use your budget? (Do you even have a functional, variable budget?) How do you project your cash flow? (Or do you run your company by mailbox management?) Is there a real AR/AP policy and procedure?
  3. Are your employees responsible for the enforcement of those cost controls? How do you hold people accountable? Do you have rational incentives in place? How do you control turnover? Recruitment? Development? Training? Retention? How do you use your job descriptions?
  4. Is your sales system really working? Are sales produced by people or by a system? How do you sell internally? Do you have a sales plan in place that is designed to really win the game?
  5. Are you keeping all of the money that you make? Do you have a tax plan in place? How do you review risk management?
  6. Are you having fun? Are you the highest paid employee? Can you take time off? Does your business make your life better or worse?

All owners can benefit from this workshop. Only those who are ready to change should attend.

Accounting 101 For Business Owners

This document is a basic primer for business owners with no accounting background (or particular aptitude!) Have your own Income Statement and Balance Sheet in front of you while you read this. Pick out the different parts on your statement as they are presented.[1]

Your financial statements

A company keeps two basic financial statements—an Income Statement (also known as a Profit & Loss Statement or P&L) and a Balance Sheet. These should be produced internally for your review at least monthly. To understand the difference between the Income Statement and a Balance Sheet look at a photograph on your wall. What do you see when you look at that picture? You see the “things” that were in front of the camera lens at the moment that the picture was taken. Imagine that instead of a camera the photographer had had a video recorder. What would you see then? You would see the “activity” that took place during the period of time that the camera was on. Your Balance Sheet is the photograph; your Income Statement is the video.

Balance Sheet

The Balance Sheet is a summary of the things that your company owns (things including debt) at a particular moment. It can change the next moment if you sell something that you own or bring in more “something.” The Balance Sheet has 3 parts: Assets; Liabilities; and Shareholder’s Equity. Assets are anything that you own. Liabilities are anything you owe. Shareholder’s Equity is a subtraction problem. Imagine that you have a house worth $250,000 and a mortgage of $200,000. What would be your equity? $50,000. You obtain this by subtracting the value of what you have from what you owe on it. This is how your Shareholder’s Equity is obtained. It is as “real” as the equity in your house. The report is called a Balance Sheet because it has to “balance.” In other words, the Assets minus the Liabilities equal the Shareholder’s Equity. Conversely, Shareholder’s Equity plus Liabilities equal Assets. It “balances.”

Your Assets and your Liabilities are sub-divided into two parts—Current and Long Term (or Fixed). An Asset is anything that you own. A Current Asset is an Asset that in the normal course of business would be converted into cash in the next six months.[2] Current Assets will include: Cash (obviously cash is already “converted” to cash); Accounts Receivable[3] (you will collect your AR from your customers in the next six months); Inventory (you will convert it into product which will sell); and you might have one or two other categories. The total of your Current Assets indicates how much cash your company will have to use in the short term.

 

A Fixed Asset or Long-Term Asset are those things that you own that in the normal course of business would not be converted into cash—desks, chairs, computers, trucks, equipment, etc. Most of these Assets are not sold, rather they wear out and therefore each year your accountant lowers their value. This is depreciation.[4]

A Liability is anything that you owe. A Current Liability is a debt that you have to pay in the next six months. A Long-Term Liability is a debt that you don’t have to pay in the next six months.

Who Cares?

You should care because the Shareholder’s Equity is akin to the equity in your house. It is the “book value” of your company. One of your objectives should be to increase the Shareholder’s Equity of your company. Other than yourself (and shareholders) there are three other people who care—buyers, bankers and bonders (the three B’s). Potential buyers care because your Balance Sheet details the things that they are buying. Bankers care because it gives an indication of whether or not you can repay a loan (see Current Ratio). Bonders care because they need to make sure that you are solvent enough to complete a bad project.

Current Ratio

If you take only one thing away from this discussion of your Balance Sheet, learn to understand your Current Ratio. Review our definitions above. One category indicates how much money your company has scheduled to come in during the short-term. Another category indicates how much money your company has going out in the short-term. The Current Assets show the money coming in[5] and Current Liabilities shows the money going out. To calculate your Current Ratio, divide your Current Assets by your Current Liabilities. Obviously we want to have more money coming in than going out (and so does a bank before they lend you money!) Therefore if you divide your CA by your CL you want the quotient (answer) to be greater than 1.0. If it is a decimal below 1.0 then you have more money going out than coming in—this is one of the tests of insolvency. In most companies a Current Ration of 1.5 to 2.5 is best but it varies so be sure to discuss this with your consultant. Although your bank will not tell you this, your Current Ratio can also be too high. As a business owner you would prefer to have a lot of Fixed Assets as these are the things that make you money. Equipment, trucks, computers, etc are tools that drive the business. You really don’t make money off of Current Assets—cash, receivables, inventory, etc. However banks want to see a lot of Current Assets (very high Current Ratio) to assure them that their loan payment will be made.

Income Statement

Most people pay more attention to their Income Statement because at the bottom it shows your profit or loss. We all know that we want profit so we look there first. As the Balance Sheet is divided into three parts, the Income Statement is divided into four[6] parts: Sales (or Revenues, or Income); Cost of Goods Sold (or Direct Costs); Overhead (formerly General & Administrative Costs); and Profit (or Loss).

Most small businesses keep their books internally. They make entries with each transaction and classify them according to the type of expense or income. Their program then automatically generates the Income Statement and Balance Sheet reports. Unfortunately GIGO applies—garbage in; garbage out. The reports are good enough for your accountant to take the data and do your taxes but generally not good enough for managerial purposes.[7] After we explain your Income Statement, you will understand some of the managerial purposes that it can serve if it is properly structured. As the transactions are entered they are placed on the reports according to your Chart of Accounts. Your Chart of Accounts determines which of the sections of your Income Statement or Balance Sheet the transaction is found. If you Chart of Accounts is inaccurate, your financial statements will not help you run the business.

Your Income Statement is not developed by the computer—it is built through your actions. This is a critical concept. Every time that you make a sale or pay bills, your are “building” your Income Statement.

REVENUES = the total amount of all of the invoices that you give to customers.[8]

COST OF GOODS SOLD = the direct cost of providing the good or service—the things that you bill the customer for. Included are the Labor, Materials and other costs that you would not have if you did not do the job (or make the sale). In a sense Direct Labor is a good thing—you have paid someone to produce your product which you sold to make money.

MARK UP = is the amount that you have charged your customer in excess of what it cost you to produce it. This amount is then applied to Overhead and Profit.

To summarize, every job (or sale) you make pays the cost of producing the product or service (COGS), allocates some of the mark up to overhead and some of the mark up to profit.

Your Chart of Accounts must put each transaction in the proper section. Labor for example must be divided between COGS and Overhead. A company without an accurate Chart of Accounts cannot properly price their product.[9]

As I have shown, your Income Statement is “built” through your transactions. It is produced in the following format:

REVENUE

– COGS

GROSS PROFIT (subtract COGS from Revenue)

– OVERHEAD

NET PROFIT

Your Overhead is your fixed costs. These are expenses that you will have even if you don’t make a sale. (The expenses that you have because of the sale are COGS.) Your GOGS is a percentage of the Revenue. Your Overhead is fixed. Gross Profit is the amount of each dollar that comes in that you are able to spend on Overhead and Net Profit. For example if you sell a product for a dollar that costs you 50 cents, you have a gross profit of 50 cents or 50%. You now have that 50 cents to apply to Overhead and Net Profit. Since your Overhead is a fixed amount, your break even is the number of 50 cents you have to bring in to pay that fixed overhead. If your overhead is $100 it takes $200 of sales to break even.[10] Therefore your break even is your fixed Overhead divided by your Gross Profit percentage. Knowing your break even is not optional—how else can you develop a rational sales and marketing plan? And without accurate numbers how can you determine your pricing structure?

Budget and Cash Flow

Your Income Statement is used to develop your Budget. Your Budget tells you what you can afford; your Cash Flow Forecast tells you when you can afford it. The Budget is critical in pricing and in developing excess-profit based incentives for your employees. Your Cash Flow Forecasting is how you run your business. You need to have developed a six-week cash forecast that shows your expected cash balances at the end of each of the next six weeks. There are virtually no generic software programs which adequately budget or project cash flow.

 

Profit Plan

 

There are four “expenses” that have to be paid out of Net Profit. Therefore each company has a certain minimum, mandatory percentage of profit that they require in order to remain viable. The net profit must be enough to pay: (1) your debt service; (2) new asset purchases; (3) the amount of cash you plan to retain; and (4) your taxes. The funding of your Profit Plan for these four items is for break even purposes just another expense.

 

Summary

In order to have financial control of your company you must have an accurate Income Statement, Balance Sheet, Budget and Cash Flow Forecast. These are tools required for Pricing, Sales and Marketing Plan, Employee Accountability and Incentives, Cash Management, and other managerial uses.


[1]You may notice that in some cases your statements may not match the presentation. These are adjustments that should be made in your chart of accounts. Until these adjustments are made, much of the analysis of your financial statements is impossible.

[2] Much of this document is an over-simplification. It is accurate enough for our purposes.

[3] This assumes that you are keeping your books on an accrual basis and not on a cash basis. Your internal books should be kept on an accrual basis as this more accurately shows your true financial position. You can keep your internal books on an accrual basis for your management and allow your accountant to file your taxes on a cash basis which is often more advantageous. The difference is when you post income and when you post expenses. On a cash basis you post income only after you have the cash and post expenses only when you pay them. On a cash basis you would not have AR or AP. In an accrual basis you post income when you have earned it and expenses when you incur the obligation. This creates AR and AP.

[4] Note that the government allows you to “expense” your depreciation. This means that you are able to reduce your income by the amount that your assets reduce in value. (In reality there are tax schedules that dictate how fast your Fixed Assets “wear out” or in other words how much of a deduction you are allowed to claim for tax purposes.) This creates a “book value” for your asset which is often different from the “market value” and is almost always different from the value of the asset to your operations. For example, a truck might depreciate over 5 years. This would allow you to deduct one-fifth of the value of the truck each year from your Income Statement for tax purposes. On your Balance Sheet the value of the Fixed Asset would reduce by one-fifth each year until it reached zero after five years. Obviously the truck would still have “market value” (you could sell the truck for something) and obviously the truck would have value to your operations, but for tax and Balance Sheet issues, it would no longer have any value.

[5] This ignores your operations and just gives you the current status.

[6] In some instances it is appropriate to add a fifth part to segregate selling costs.

[7] The best analysis of this is found in “Minding My Own Business” by Dirk Dieters available on The Fremont Group web site from the publisher (best price) or on Amazon.com. The relevant section discusses “managerial accounting.”

[8] This of course is on an accrual basis.

[9] Every company has a “product.” In a typical service business that “product” is a unit of time. The charge for that unit of time determines the price.

[10] Now you should be able to see why you must have a proper chart of accounts. Without it you cannot properly compute your break even—nor do some of the other critical management calculations.

June Case Study

FACTS

A second-generation business in flooring and carpet was doing quite well. They grew to a sales volume of about $20 million per year with nearly 100 employees. The brothers who operated the company are approaching retirement age, have received a good salary and have done well themselves. The company has a great reputation and very high market share—particularly in residential new construction. Unfortunately they are located in an area that has been hit extremely hard by the recession. New construction has come to a halt. Builders are not paying. Accounts receivable have skyrocketed and their volume is half what it was the year before. They have taken steps in laying people off and trying to control costs but it seems that whatever they do it isn’t enough. They expect things to turn around but it could take another year or two.

Post in the comments the recommendations that you would make for immediate, short and long-term actions.

Note—all case studies are fictional and any resemblance to an existing business is coincidence.

Surviving the Recession

Here is how one company has managed to not just survive but also thrive in the recession.  Slate Magazine just posted this article by Daniel Gross.  Here are some excerpts:

“But at least one comparatively pricey restaurant chain is turning in the equivalent of a Michelin-starred performance. P.F. Chang’s China Bistro, whose two restaurant chains—P.F. Chang’s and Pei Wei Asian Diner—are staples of upscale malls and mixed-use developments, said that same-store sales fell a bit but profits produced at its 350 outlets rose 38 percent from the first quarter of 2008. Operating margins—the holy grail of any business—at P.F. Chang’s 190 stores rose from 12.8 percent to 14 percent, largely because of “incremental operational improvement opportunities.” The stock has doubled since November.

What accounts for the sizzle in P.F. Chang’s wok? Probably not the food. Just as saxophonist Kenny G provides jazz for people who don’t really like authentic jazz, P.F. Chang’s peddles Chinese food to diners who might not cotton to authentic Sichuan fare. Waiters don’t wheel around carts laden with steamed chicken feet as they do at dim sum parlors in New York and San Francisco. In the comfy confines of Boston’s Prudential Center, I was presented with a raft of desserts as American as, well, apple pie, including the Great Wall of Chocolate. “It’s like The Cheesecake Factory, only ethnic,” says Jennifer 8. Lee, author of The Fortune Cookie Chronicles: Adventures in the World of Chinese Food. “It’s very consciously designed to cultivate an appeal to mainstream America.” The “P.F.” stands for company founder Paul Fleming, and the kitchen features ingredients that wouldn’t be found in Chinese restaurants, such as chocolate, cheese, and melon balls. (Try picking up fruity spheroids with chopsticks.)

P.F. Chang’s made it to $1 billion in sales by taking cues from successful Asian businesses. Now by focusing on process improvement rather than helter-skelter growth, it seems to be doing so again. Continuous improvement, the philosophy pioneered by Japanese companies such as Toyota in which managers and workers relentlessly seek out small modifications that add up to big profits, seems to be the recipe for success in 2009.”

Businesses must focus on themselves—internal process improvement—rather than just continuing their old tactics.  Doing the same thing over and over again and expecting a different result is the definition of insanity—Einstein.