Are you getting the right set of numbers to help you run your company?
Numbers, numbers, numbers. To respond quickly and effectively to crises or business opportunities, owner-managers must be able to evaluate their sales patterns, inventory levels, profit margins, cash-flow spikes, and a host of other financial trends. Without financial reports that are timely, accurate, concise, and, above all, relevant, even healthy businesses can face financial ruin.
That's what happened to R. S. Bacon Veneer Co. Five years ago, the Hillside, Ill., company was selling about $4 million worth of wood veneer products, mainly to furniture manufacturers. Then its Big Eight accounting firm decided, based upon the elaborate set of financial reports it prepared about Bacon each month, that the manufacturer was on the verge of financial disaster. Liquidate, advised the experts. Instead, the firm decided to switch its accounting agency and financial reporting system. Today, business has never been better, with sales between $12 million and $15 million.
Bacon's experience illustrates just how essential the right set of numbers can be. Before the accounting switch, "we'd get this set of financial documents each month that would have made better sense for General Motors," recalls president Jim McCracken. "We wanted to know if we were making money or losing money. But instead, we got all these numbers that were impossible for us to use. And if we asked questions, we'd be bounced from one special consultant to the next so that we'd never be able to get a sense of our larger financial picture."
In retrospect, it was like a bad business-school joke. During a typical month, R. S. Bacon would receive financial reports that blathered on for 100 pages or so about items ranging from "operating income theoreticals" and "purchase price variances" to "cutting logs to flitches -- yield variances." McCracken and chief executive George Wilhelm didn't have a clue how to sort their way through this numerical quagmire. So they often just filed the quarter-inch-thick reports away in a desk drawer. When they would send their financials to their banker, recalls McCracken, "we'd always include a letter that explained what we thought had really happened to the business during the prior month."
The consequences of this confusion escalated quickly. During the early 1980s, sales stagnated at the worst possible time, just after Bacon had invested a good bit of capital in a new production facility in Grundy's Center, Iowa. McCracken and Wilhelm had begun worrying that they were losing control of their inventory levels and various profit margins. "Every month we'd sit down with those statements and try to understand them -- try to figure out what we needed to do next. But we didn't even have a handle on what our cash flow was and whether we should add to inventory or reduce it," McCracken complains.
There is a point at which an entrepreneurial company's growth no longer compensates for inadequate, irrelevant financial reporting systems. The moment of truth is different for every company. It might result from a diversification strategy that forces a reevaluation of all profit margins; an accounts-receivable glitch that creates a cash-flow crisis; a growth spurt that necessitates an intensive inventory buildup; or simply a bid for increased financing from bankers or other investors. Whatever the trigger, no entrepreneurial company can continue to grow without adjusting its reporting system to fit its size, sophistication, and management concerns.
For R. S. Bacon, the crisis came when its accountants slapped a "going concern opinion" on a year-end statement. (These opinions, which were eliminated by the accounting community about a year ago, warned bankers and other creditors that, in the judgment of the company's accountants, it could not continue to operate without an infusion of capital.) After a several-month investigation, the same accounting firm urged Bacon to liquidate. McCracken and Wilhelm were panicked. "They were the ones, after all, who worked with our accounts and understood our numbers. I'm still amazed," McCracken says, shaking his head, "that we had the courage to throw them and their reports out the door."
When the manufacturer switched to another accounting firm, Chicago-based Miller, Cooper & Co. Ltd., on the recommendation of its bankers, Wilhelm and McCracken got a welcome surprise: these accountants had no doubt that the company was fundamentally sound. The main problem, as they saw it, was the company's impenetrable reporting system and the way it stymied informed management decisions. "There was no way that a practical businessperson, whose financial department consisted of a bookkeeper and a clerk, could get anything useful out of those numbers," recalls Marty Birnbaum, the partner who works most closely with Bacon.
So Birnbaum set out to bring the company's financial reports in touch with its business reality. To begin with, he quizzed Wilhelm and McCracken about the numbers they felt they could best benefit from knowing: did they want to know the cost of producing each of their veneer lines or the profit margin per product? Would it be helpful to be able to evaluate sales costs by product? Did they care about any of those variances their old reports had been monitoring? What about inventory levels: did they need them to be updated annually, quarterly, monthly, or on some other basis?
The goal throughout that question-and-answer process was quite simple: "I wanted to come up with no more than 10 pages of clear monthly statements that would equip these people to run their business," explains Birnbaum.
It's an excellent strategy for designing relevant, concise financial reports. Start with the basics that every company should know on a monthly basis: sales, fixed expenses, and variable expenses. Then figure out the additional areas on which you, as a manager, need to turn the spotlight. (A service company, for example, would benefit from being able to analyze sales, profits, and training costs per employee. A manufacturer might want to evaluate debt, sales, and profitability in the light of various inventory levels and production costs.)
At R. S. Bacon, the refocused, monthly reporting system worked like a shot of penicillin to revive the ailing company. "When we were able to actually see the sales costs of each product, we realized that some parts of the business produced such a low margin of profitability compared with the sales effort that we needed to diversify -- which would also have the added benefit of sheltering us from the cyclical nature of the U.S. furniture manufacturing industry," says McCracken. That translated into the company's decision to add more high-profit, unusual veneers to its lines; with prices as high as $25 per foot (compared with lower-end products at 5 or so per foot), these sell to such customers as Jaguar and Mercedes as well as to architects.
In the old days, with Bacon's former reporting system, the decision to diversify could in itself have been fatal because it entailed a full-scale expansion of the company's inventory -- a particularly stressful expansion, from the cash-flow vantage point, since the new upscale lines required heavy outlays of capital and turned over at slower, far less predictable rates than down-market lines. (An exquisite piece of rosewood burl, for example, might wait in Bacon's Iowa warehouse for 5 or 10 years before the right well-heeled customer came along.) But McCracken was able to increase his inventory at a manageable rate because, as he puts it, "I knew exactly how much cash and credit I had all the time. And that meant I could buy my wood at the best prices and quality I could find, because I could respond to market opportunities quickly." Currently, the company keeps about 37 million square feet of wood in inventory, more than twice the level of just 5¢ years ago.
Best of all, once Bacon's bankers started getting monthly reports that they felt were accurate and informative, they decided to increase the company's credit lines "even though we hadn't quite turned the corner," recalls McCracken. "It was all part of the process of getting our sales and profitability back on track."
And on track they've stayed. Sales have increased almost 300% over the past five years while profit margins have been more than adequate. And through it all, Bacon has continued to use the same reporting system that Marty Birnbaum set up back in 1983. "Those reports gave us the numbers we needed to run our business," says McCracken. "It didn't change when our numbers started getting bigger and bigger. The system still works beautifully for us."
JUST THE FACTS
Get the numbers you need to run your business
Do you have and understand all the numbers needed to run your business? If not, it's time for some changes:
* Draw up a dream list of the numbers you'd like to see on your desk each month. Then create additional lists of numbers that would be useful on either a quarterly or annual basis.
* Show the lists to your accountant and banker. Ask them to suggest other details that might be useful.
* Upgrade your computer system and bookkeeping department if they can't give you the detail you need. R. S. Bacon Veneer Co. had already invested in a continuous-update system for sales and inventory when it built its Iowa production plant.
* Assert yourself. If certain parts of your financial reports strike you as unnecessarily complex or jargon-laden, ask your accountant to draw up a translation that works for you and your bankers.
* Make sure that your accounting firm and financials make sense for the size and nature of your business. "The biggest lesson we learned," emphasizes McCracken, "was to go to a firm that can give us the time and level of information we need."