You have no doubt heard your accountant telling you on several occasions that Cash is King.
Whilst I don’t disagree that without cash, a business simply cannot survive or grow, I challenge the principle that it is King.
I also agree that careful management of cash, including the critical area of managing working capital (debtors, stock, WIP, and Suppliers) is vital so that a business avoids always be chasing its tail.
However, what is more critical is the ability of a business to generate cash in the first place, in order to enable you to manage it effectively.
The initial driver of positive cash flow is profitability.
To drive profitability, your financial reporting (specifically your Profit and Loss report) should be highlighting what we often refer to as the YFC Golden Nuggets of Information. These golden nuggets will help you as a business owner identify what is driving poor or exceptional performance in your business.
Does your Profit and loss report give you the following 5 YFC Golden Nuggets?
1. Accurate reflection of Performance
Sounds obvious doesn’t it? Our experience has shown us that this fundamental basic requirement is not always in place. Revenue and Costs are often not allocated to the right place and in the right period.
Month on month reporting should provide you with trends and a clear picture of what is driving the financial results for your business. If you do not have accurate financial information in your reporting, how can you make better decisions?
Another issue we come across on a regular basis is that the format of the report suits your tax accountants. Your tax accountant doesn’t use it to make better business decisions; they use it to compile end of year financial statements and calculate tax liabilities.
2. Focus on Gross Profit/Margin
A Profit and Loss Report should mainly be focussed on the Gross Profit elements and the drivers of those elements. The gross profit and margin percentage should clearly indicate which clients, services, products, regions, or departments are generating the best returns, and which of these areas requires attention or greater focus.
A good Profit and Loss report clearly identifies the true direct costs of providing your products and services. We often see labour costs for staff directly generating revenue in the indirect expenses section, which does not allow a true measure of gross profitability.
A business that has clear visibility of this critical labour cost, and percentage of costs in the Profit and Loss report will help you to drive a better bottom-line result. So, next time you take a look at your Profit and Loss report, look at the middle of the report for the Gross Profit, and make sure you can fully understand what is driving this number. It will help you and your team drive positive change in your business.
3. Revenue Generation
Does your Profit and Loss report clearly show your revenue, and where it is generated from? The products and services your business provides will determine the relevant revenue sources that you need to identify. At Your Financial Controller, we often see every single line of expense recorded for expense items such as postage, stationery, rent or advertising, but only one line for income! Revenue, along with gross profit, are the most important aspects of your Profit and Loss report.
For some, it is different service types. For others, products, geographical areas and different departments. Many businesses find that revenue by client is valuable. It may be a combination of all of the above.
Whichever is most important to you, the ability to cut, slice and analyse the revenue information is vital in understanding your business financial performance.
4. Insight — without too much detail
It is true to say that the devil is in the detail. However – and it’s a big however – often the Profit and Loss reports that we see have huge amounts of detail, with a distinct lack of clarity about the real drivers of the results.
Whilst accountants love detail, business owners are often not financial experts and don’t want to be, or even have time to be. They are experts in their field who need to be able to quickly identify the bigger picture including what they need to do to improve or grow their business.
A lot of detail in a Profit and Loss report can detract from insights and clarity. Our brains are wired to prefer to see less detail and more summarised information that is provided in a visually impactful way.
5. Clarity on your Profit and Loss Story
A Profit and Loss report needs to provide complete clarity on the Profit and Loss story for your business. By Profit and Loss story, I am referring to the critical elements of your results as below:
- Gross Profit Margin (as a percentage of revenue)
- Overhead (indirect) costs (as a percentage of revenue)
- EBITDA – Profit before Interest, tax, and depreciation (as a percentage of revenue)
- Depreciation and Interest costs (as a percentage of revenue)
- Net profit before tax (as a percentage of revenue)
Your Financial Controller
As you can probably tell, I am really very passionate about helping business owners to achieve better financial returns whilst improving the quality of their day to day working lives. I love the numbers, and helping owners understand how to pull on the performance levers in their business to make a real and lasting difference.
Your Financial Controller has a high quality, experienced team of financial controllers whose background includes sectors such as engineering, industrial, logistics, mining, construction, for purpose and not for profit.
Many businesses in the SME sector rely on advice from their tax accountants or try to internally manage their financial function. The result is that this critical area may not get the attention and focus it deserves and needs.