GETTING A HANDLE ON YOUR SMALL BUSINESS FINANCES
Financial statements are a complete mystery for far too many small-business owners. Some might scan a monthly income statement and balance sheet, but few feel comfortable analyzing a statement of cash flows, much less using the valuable information it has to offer to make critical business decisions.
The advent of QuickBooks and other accounting software changed the structure of the accounting office from what was typical decades ago, says Thomas Cotten, owner of a CPA consulting and tax advisory practice in Baton Rouge. Cotten said that before accounting departments were disrupted by the computer revolution, they often reflected a pyramid structure, with the bottom layer being composed of staff-level employees led by one or more accounting managers. Accounting managers were directed by a controller, or even several controllers in larger companies with multiple departments or divisions. And at the top of the pyramid was the chief financial officer, responsible for helping align the visions and goals of the CEO and other corporate leaders with financial reality.
“What’s happened is we’ve replaced those manual, tedious transactions with the computer,” Cotten says. He recalled once serving as the CFO of a 50-person company: “Back then, I ran a $12 million company, I had five [staff-level employees], one accounting graduate, a CPA controller and I was at the top. Today I’m working with a $10 million company — one bookkeeper; I’m the contract CFO.”
But while technology has made accounting functions easier and more efficient, it has not eliminated the need to read and understand your company’s financials. At a recent Tech Park Academy event, Cotten spoke to entrepreneurs and others in the business community about the fundamentals of how to read and understand financial statements. Read on for tips from his presentation that can help you get a handle on small-business finances.
Don’t Get Too Bogged Down in Details at First
“You’re looking through a telescope, not a microscope,” Cotten said as he introduced the fundamentals of financial statements. “You’re not looking at atoms; you’re looking at stars in the sky,” he said, elaborating on how to best look at financials for the first time.
Instead of diving deep into the details of items on the balance sheet and income statement, look at the big picture first: Look at the total assets on the balance sheet, then current assets. Compare these against total liabilities and current liabilities. Take the same approach with the income statement — first look at total revenue, cost of goods sold, gross profit and other summarized numbers before drilling down on the details of what makes up these figures.
Only after getting an understanding of the big picture should you move forward with trying to understand the details. Far too many business owners get bogged down with the details and are unable to see the forest for the trees, Cotten said.
Make Sure You Compare Apples with Apples
Cotten highlighted the importance of benchmarking your company against others in your industry. “If you’re in the construction industry, you want to look at a set of financials and compare yours to [other construction companies]. If you’re in digital media, you want to go find digital media financial statements and compare,” he said.
But while your company’s financials are clearly important to you and others interested in your business, they shouldn’t be observed in a vacuum. Businesses providing services may have hefty payroll expenses but few capital requirements, while a modern factory might be just the opposite, employing few employees but requiring expensive machinery for production.
Because the operations and needs of businesses vary tremendously across industries, trying to compare your business with a business that operates in a different industry would be a mistake.
Cotten also emphasized the importance of using common financial ratios to understand and compare your business with others. Because many business owners aren’t prepared to take on this task alone, he said, it’s important to find a financial partner who will help you better understand your financials and how they compare with others in your industry, and also to identify key performance indicators within your business.
Get Help to Look Good On Picture Day
Cotten introduced the balance sheet as “a snapshot of your company at one point in time.” “It’s the family portrait that hangs on the wall. It’s going to be there forever; it’s got to look great,” he said. Because you can’t go back in time and change it, he said, “you have to be positioning your balance sheet to look great on Dec. 31.”
To make your financials look good for outside parties such as investors or lenders, you’ll need to work closely with a trusted financial adviser. Whether you look to financial leadership within your company or use an outsourced financial professional, you’ll want to work with someone to create a road map toward the year-end balance sheet you want to see. By working closely with a financial partner to understand your company’s performance and the impact your business decisions will have on your financial statements, you’ll be on your way to getting a handle on your business’ finances.
About Tech Park Academy
Tech Park Academy is a monthly seminar hosted by the Louisiana Technology Park. We strive to bring you talented, knowledgeable professionals who have invaluable information to share. These events are accompanied by a catered lunch, which is included in the ticket price of $10. Sign up for the next event.