Understanding the Financials

By Diane M. Calabrese / Published July 2015

 

Heavily booked and extremely busy, the brisk pace at which the team is serving clients means it’s time to expand—or is it? July may present quite a different financial picture than January for contractors, distributors, and manufacturers alike.

Before any good choice can be made about hiring, adding to the product roster, or updating facilities, a business owner must know what the cost and profit centers are and how they are tied together. Understanding the financials is not an option; it’s an integral component of doing business.

“Financials are the score card that should drive all business decisions,” says Michael Hinderliter, president of Steamaway, Inc. in Fort Worth, TX. “When the financials are appropriately segregated, it becomes much easier to know what works and what doesn’t and how to react in order to make a profit.”

Are some bits of financial information more significant than others? Yes. “In any business, the single most important question is always net profit and at what percentage,” says Hinderliter. For a service-oriented business, the next most important piece of information would be the percentage of a sale that will be used to compensate the employees required to complete the work.

A business owner should be talking with his accountant—whether in-house or contracted—and asking questions. For instance, ask about the relation between gross profit and sales. (Ultimately, the profitability of a business will be evaluated by a clear-eyed look at the profit in each sale. See the related article in this issue: “Evaluating Business Profitability.”)

Not every small business can afford an in-house accountant, but every small business must have accounting help. It may come in the form of software. When choosing software, select something that is easy to use, says Hinderliter. “Power washers aren’t accountants or bookkeepers, so the simpler it is to use, the better.”

Every business, irrespective of size, should create a budget, says Hinderliter. “A budget allows you to monitor if you are staying the course throughout the year. It also becomes much easier to recognize when specific costs and/or revenue are not in line and need attention.”

(Being able to assess the financial strength of a business requires sound financial protocols. A business owner should have at his “fingertips the ability to visualize the financial skeleton” of the business, explains Gregg Brodsky, senior western sales manager at Alkota Cleaning Systems, Inc. in Alcester, SD. Brodsky gives us his perspective on establishing such protocols in this month’s CETA Edge on page 24.)

Clarity

The single most important piece of financial information to a business owner is “the true cost of doing business,” says Daryl Mirza, president of Averus in Gurnee, IL. “People don’t take the importance of truly knowing what it costs to do the service seriously enough.”

Taking the time to assess the true cost gives the owner clarity. “If you have a handle on your gross profit and how it affects your business, everything you do—you can easily understand how much money is available,” says Mirza.

“If you do not know the true cost, then how can you buy or spend any of the additional monies you have in the company?” says Mirza. “If you’re not making any money, how can you plan and know what to do? Are you just covering your costs or are you really in the negative? Are you buying things as investments that will make you more money, or are you spending cash that you really should spend somewhere else like payroll?”

Every business owner has some information that he carries as a gut feeling. Even without the numbers for a given day or week, he has an overall view a gestalt view—on sales and expenditures.

Yet, there are times when the numbers must be available. Certainly when meeting with loan officers or tax officials, but the financials also are essential to a sale of the business.

“It’s all about making money,” says Mirza. “Many people want to sell their business when they want to get out, and they can always talk about the top line sales and they know their numbers. They also make comments like ‘some of this money is cash and you know what I do with that.’ Very few people say how much money the company makes. We all know there are many items we take advantage of in the companies, however you need to know what those items are so you can put them back into numbers to see your true picture of profit.”

Hands-On Approach

Not every evaluation of financials of a business should be left to the accountant. “We have an in-house accountant, but being able to read a balance sheet and know exactly how your business runs from it and understanding cash are musts,” says Mirza.

“A customer is going to pay you in 30–45 days, and you have to pay for your supplies, products, and employees before that,” explains Mirza. “Do you have the cash to run the business?”

Larger projects require a greater investment. “Can you take on the big jobs and wait for the money to come in?” says Mirza. “If you take on that big job, can you make a better arrangement to get paid faster or have a deposit to help you get by? Is your accounts payable going up, is your accounts receivable going up, is your cash in the bank going down? If you do not learn and compare your balance sheet from different time periods, you may not make the correct business decision. Growth is great, but how are you going to pay for it because your bills are due a lot sooner than your customers are going to pay? Unless, of course, you get paid COD. If you are doing work in the commercial market, COD is not the norm.”

Like Hinderliter, Mirza recommends using accounting software that is synonymous with ease of use. “Let’s face it everyone uses QuickBooks; we have used it for years,” he says. “We did use other high-end accounting software and it did nothing better, just made it more complicated. If you have an outside accountant or an inside bookkeeper, make sure you get the online version of the accounting software.”

Mirza likes his accounting software of choice for many reasons. “It’s very easy for you to look and make sure the bills are correct and allocated properly,” he explains. “We even put in projected sales at the beginning of the month to make sure we are always looking at our bottom line and staying focused.”

The online version of software also is welcomed by outside accountants who work on monthly or quarterly statements. An accountant can review files with you by phone as you both look at the same files.

The accounting software also facilitates multiple, informal, internal checks. “We give access to the managers and partners to see everything in those books,” says Mirza. “It’s always better to have another set of eyes on what’s going on. It’s going to add more questions, but if everything is right, it makes everything a lot easier. You’re able to look at trends and to spot where things are going to be a problem.”

Cost Control

Understanding the financials is not really the difficult part of doing business. Instead, it’s something an owner must commit to doing and then follow through. Scrutiny of financials ought to give good insight into ways to control cost. It does to a point. Difficult-to-control costs seem to be multiplying, though.

New expectations—from levies to regulations—from local, state, and federal governments add costs that are non-negotiable. Mirza cites the example of a business that crosses a jurisdictional line and discovers the need for a unique business license for that municipality. The license is needed even though only one facility is being cleaned and the license costs more than the sale of the service.

A contractor in the forgoing situation could try to offset the license fee by lining up more jobs in the jurisdiction. But what if the one facility the contractor is there to service is part of an array of facilities belonging to a single client?

The costs of doing business are going up everywhere in the country, says Mirza. They include federal mandates, such as health insurance and unemployment taxes. It’s a long list.

Make any error, and it can add more cost. For example, after shipping a taxable product and failing to charge the correct tax on a single invoice, Mirza’s company had a visit from an auditor based in Connecticut that required several hours of investment from his IT department staff as it assisted the auditor with computer access and space. In the end, it was just an error on the one invoice, the audit confirmed. But the auditor explained he was required to do the review.

“You have to control the costs that are within your control because others may not be,” says Mirza. “It’s all about knowing your true cost of doing business.”