What is a Virtual or Interim CFO?
This interview with John Y. Lafferty of CFO-Pro explores some of the most beneficial services he offers his clients. John is one of the most experienced Interim CFOs in the country. We’re going to be talking about CFOs and start-up businesses in general and how you get involved in starting up a company properly with proper financial support.
Interviewer: Today we’re going to be talking about this whole idea of outsourcing a CFO. First of all, give us a little background about your business. First of all, how did you get into this business, and did you always want to be a CFO?
John: I started my career in public accounting with Arthur Andersen. I had no idea that I would eventually be a CFO type, but after a number of years there, I went into venture capital, which at the time was the largest institution VC firm in the country. After several years there, I decided to peel off in the industry and be the financial guy and was in a number of privately-held enterprises. I also had the opportunity to run some businesses during that time. Eventually, it became pretty clear to me that the hours I was putting in on a salaried basis were just too much, so I thought ‘why don’t I go out on my own, do what I do, what I knew how to do best and provide financial management services to business owners.’ That’s what I’ve done.
Interviewer: It’s interesting because a lot of companies go out and they’ll hire a mediocre CFO and they’ll pay them full time and they really don’t need that; they need somebody focused on the most important things. Maybe you can give our audience a few tips on what’s there to be appreciated when it comes to high-quality CFO services and how can a fractional CFO person like yourself really get a company properly on track?
John: I’m going in and focusing on what is bothering that business owner; what does he feel his key issues are on the financial side of the business. One of the things that they don’t pay any attention to is break-even sales. They don’t know ‘at what point do I have even sales to cover all of my expenses.’ Beyond that, that becomes profits. They don’t understand the formula nor how to calculate it. That’s something I can help them with within a matter of minutes because when I look at their P&L statement, I can quickly see that there may be some line items that are misclassified. They’re going to need to be above what they call the line or below the line; that’s the gross profit line. Once they’ve understood that, then I say let’s assume you wanted to spend $10,000 on a marketing initiative, the same formula is going to answer the question ‘how much in sales do I have to generate to cover that cost.’
I also look at how many days of sales are in accounts receivable and also in accounts payable. The larger that gap is, the tighter their cash flow is. If they’re collecting receivables in 70 days and paying vendors in 30, that’s a wide gap and so I encourage them to chase those receivables, get that down to 45 days, stretch your vendors a little bit, maybe up to 40 days. There’s one other item that I point out and the way I approach it is let’s assume you can improve your margin by 1% and if you got $10 million in annual sales, that 1% is worth $100,000. If you improve that margin by 1%, that’s $100,000 to your bottom line. Maybe you don’t need it in the business or you take it out and invest it elsewhere. That’s a key thing to begin to understand in terms of watching your margins, managing them, and knowing what it really means to do them.
Want to know more about CFO Services? Give John a call at (630) 269-7646.
How To Create Clean, Lean Monthly Financial Reports
Here’s how to turn a lengthy financial report into an executive financial summary
In my last blog I discussed the importance of lean month-to-month financial reporting. Now, I’ll tell you how to generate a lean and clean financial report.
Many CEOs wade through a lot of unnecessary financial detail that clutters their thinking and eats up time.
What the CEO really needs to see are sales figures and gross margins. They tell him or her the amount left over to cover the overhead and produce a profit for the owner.
The first metric a CEO needs to know is the average monthly overhead cost. The second is the percentage of that average monthly overhead compared to sales.
If the average monthly overhead-to-sales percentage is moving up, the company better be generating more sales to cover overhead, or know the reason why it‘s not. In short, if the numbers are moving in ways unfavorable to the company, the CEO can begin to identify the problem and take steps to address that issue.
The worksheet design can be tailored to the company using the spreadsheet’s capabilities. When working with a company, my discussions with its CEO and my analysis of current financial statements will help me shape this monthly financial report into a format easily understood by the CEO.
Moreover, I can walk him through the way I designed the worksheet and how I interpret its numbers. That will allow the company to create the same kind of worksheet, month by month and year by year. That CEO will sleep better at night, because he understands what he’s looking for when reviewing those month-to-month and year-to-year worksheets.
If you would like help replacing one-inch financial reports with easy-to-peruse month-to-month worksheets, please contact me. I offer a 100 percent guarantee on my work. I take on only clients I can help. Call me and let’s talk about your business. My phone number is 630-269-7646.
A Time-saving Financial Tool for Better Financial Reporting
How to generate a financial report that provides better financial insights
I was invited to breakfast one morning by a CEO of a food service company. She came to the table armed with an inch-thick sheath of papers, and told me the stack represented her controller’s financial statement.
“This is too much to deal with,” said the successful businesswoman. “I can’t make heads or tails of it. And you know what? I receive a financial report like this every month!”
I told her I’d take the stack back with me, and return with a financial tool presenting the data in an easier-to-absorb format. At our next meeting I handed her the month-to-month worksheet I’d designed and said, “Rather than going through a dozen of those inch-thick stacks every year, let’s take the critical top-side income statements and line them up month-by-month on this one sheet of paper.”
Before delivering it to her, I’d dropped in the April numbers to serve as a guide, with the other columns remaining blank. I told her to give that worksheet to her controller, and have him complete it month by month.
Saving Time for the CEO
I only wanted her looking at the top-side numbers, not all the other detailed figures. I just wanted her to deal with total revenues month-to-month, the gross margin month-to-month, and the total overhead month-to-month. The top-side numbers were what she needed to gain key financial insights.
The worksheet was designed to display the actual numbers reported and the numbers that had been budgeted for the month. She had 25 different operating units, all of them captured in columns on her spreadsheet. She could skim across those 25 columns and quickly see how her company was doing.
As part of this financial tool, I had also calculated a few financial ratios and percentages. She could compare one operating unit versus another, and examine the gross margin percentage. That would tell her how one operation was performing versus the next. The same thing was done with operating costs as a percentage of sales. That told her how each operating unit was managing costs, and whether each one was performing as projected.
Using this important financial tool made the CEO more productive. First, she saved time, because she no longer had to wade through inch-thick monthly reports. Second, she had crisp financial reporting that indicated specific, targeted issues to discuss with management.
Deeply appreciative, she said, “Y’know, after all these years of being in the food service business, I finally understand what my numbers are telling me.”
In my next blog, I’ll explain how this time and labor-saving financial tool can be created for your own company.
How to Improve Your Financial Reports — and Thus Your Decision Making
Poorly structured financial reports stymie a company’s forward movement, but there exist steps CEOs can take to fix the problem.
In my last blog, I noted some 80 percent of small and medium-sized companies are hamstrung by poor financial reporting. If you are the CEO of a company suffering from this problem, I urge you immediately take the step of convening a very serious meeting with your in-house or outside accountant.
As a CEO, you may not know exactly how to classify revenues. But you do know that understanding how much revenue is coming from each of your product lines is imperative. Convey that objective to your accountant. It may require your in-house accountant work with your outside accountant to restructure the chart of accounts used to code and classify transactions in the financial statements.
Once you’ve gone this far in segregating revenue streams, you will next want to learn the gross profit associated with each of those streams. This will help determine which revenue streams should be given additional effort and capital to make them even more robust, or if entirely new streams should be launched.
In addition, you must discuss with your accountants the proper classifications of expenditures. This decision will help determine what direct costs are associated with generating each revenue stream, and what overhead costs exit.
Once you as CEO understand what you are hearing from your internal and external accountants, you will better understand where all this time and effort is headed. It is headed toward creating a vastly improved reporting system, with the objective of using it to make better-informed decisions.
I’ve seen some CEOs react with shock when presented with never-before-segregated revenue streams and their associated costs. “Oh my God!” they exclaim. “ I’ve got to eliminate some SKUs, some product lines. They’re just not profitable to continue selling.” Or, they may respond, “The margins on some of these SKUs are just so low that I will have to increase my prices.”
Now you can look into each stream, examine the number of items comprising each of those streams, and decide which SKUs don’t justify any additional sales effort.
What’s more, if you know you have a good product the marketplace clearly wants, you can make a better decision on adjusting its price.
It all comes down to better informed reporting. As CEO, you can now devote your energies to building profitable sales growth, and sleep better each night knowing your numbers make sense.
If you’d like to sleep better at night, get in touch. I offer a 100 percent guarantee on my work. I take on only clients I can help. Call me and let’s talk about your business. My phone number is 630-269-7646.
The Paralyzing Problems of Poor Financial Reporting
Misclassified expenses and un-segregated revenue streams result in poor financial reports that can halt a company’s progress in its tracks
It’s hard to make informed decisions about a company’s future based on poorly- structured financial reports. Yet many small to mid-sized companies rely on reports beset with serious problems. No wonder these firms aren’t growing.
One common problem with financial reports is that the reporting system is capturing a variety of product or service revenue streams in one account. Without those streams being segregated, the CEO doesn’t know what areas of the business are doing the best and worst jobs of generating critical revenues.
Another all-too-frequent issue is misclassification of expense categories into overhead, rather than cost of goods sold. As a result, companies get a read on gross profit and gross margin that is simply not accurate.
For example, if a company wants to launch a new marketing program, officers will attempt to determine how many additional sales the program will have to generate to justify its cost. If they don’t have an accurate read on gross margin, they will make a decision based on skewed sales numbers. That could result in the marketing program being over or under-funded.
These financial reporting issues are very prevalent, and are present in four out of every five companies I counsel. The problems exist for two reasons.
First, company officials don’t know how to distinguish between direct costs to produce sales and those line items that should go into the category called “overhead.” Second, despite their desire to place all transactions in the right categories, the companies do a poor job of coding, or classifying, transactions.
Unless the company addresses these reporting issues, the CEO will face the same problems month in and month out.
He or she must take a stance and rectify the reporting problems. If the CEO is smart, he’s going to say, “We have a direct cost of generating these sales dollars in overhead. They should be in cost of goods sold.”
The result of poor financial reporting is wasted time. The company wastes time pulling financial statements together, and again wastes time being forced to pull information out of the accounting system into a format that can be used. Precious hours and days that could be used to concentrate on building profitable sales growth go down the drain. In this case, wasted time truly is wasted money.
In the preceding paragraphs, I’ve discussed the surprising prevalence of poor financial reporting, and the negative outcomes that result. In my next blog, I will address steps chief executive officers can take to meet the problem head on.
Back to Basics – Do You Have the Right Chart of Accounts? – Week 4
For those not inclined to be organized, the idea of doing your own accounting beyond balancing your checkbook may make you a little queasy. However, you’ve managed to keep your lunch this far, and guess what? You’re almost done! Over the past three weeks, we’ve discussed balance sheets, income statements, and cash flow statements; today, we will be discussing the linchpin that allows the financial statements to communicate in a clear and logical manner… the chart of accounts.
Week 4: Do You Have the Right Chart of Accounts?
Well if you don’t, then you should, and hopefully after this, you will. Your business life has the chance to become incredibly more coherent once you implement the right one. In layman’s terms, a chart of accounts (COA) is just that — a chart, made by you, listing each of your General Ledger account names that describe the nature of the account; all your financial transactions get recorded by coding the transaction following the COA . SmallBusiness.com refers to it as “an accounting term that describes a list of common ways money is used by a business so that its owners and managers can organize revenues, costs, and assets into categories.” It is, for any business, an invaluable tool. Remember, the coherency of financial statements is all in the coding.
Below is a basic format for setting up the COA.
|Income Tax Expense||900-999||9000-9999|
The 3-digit coding can accommodate two product lines; if you have more than two, use 4-digit coding which considerably expands the coding universe. Please note that service lines may be substituted for product lines.
Direct Costs may be defined as costs directly associated with the cost to manufacture, warehouse, distribute, deliver, or to consult, for a “line of business”. Direct Costs exclude selling, general and administrative expenses. These are Operating Expenses, or Overhead.
A chart of accounts is made to be adaptable to each business’ unique needs, so go ahead and tailor it! This is a system made to make your life and the running of your business easier, not to add more stress. Keep it simple. That is the best way to keep it focused, and keeping yourself focused means that you allow yourself more time to explore opportunities that will grow your business profitably by having coherent financial statements.
Back to Basics – Managing Your Finances 101 – Week 2
It’s easy to become daunted when faced with the intricacies of financial statements, especially when you’re a new business owner. Fortunately, you don’t have to have an MBA in order to make sense of your financial statements, and you don’t have to fear the challenges presented by this very important part of your business.
Week 2: What is an Income Statement?
An income statement is a financial statement that tracks revenues and expenses — money coming in and going out — so you can watch how your business operates over a set period of time. Its main purpose is to show and track whether your company made or lost money during the reported period. Sounds like worthwhile reading material, right? Read on to find out how to make sense of your own personal best seller.
Income statements should be helpful to small business owners in particular, who can use these statements to “find out what areas of their business are over budget or under budget,” says BusinessTown.com. “Specific items that are causing unexpected expenditures can be pinpointed, such as phone, fax, mail, or supply expenses. Income statements can also track dramatic increases in product returns or cost of goods sold as a percentage of sales. They also can be used to determine income tax liability.”
There are two types of income statement, the basic “single step” method, and the slightly more complicated, yet more revealing, multi-step method. Both have their merits; sometimes all you need is a bottom line, while other situations may call for an in-depth view.
The chart below, courtesy of Investopedia.com, compares the single-step side by side with the multi-step:
|Multi-Step Format||Single Step Format|
|Net Sales||Net Sales|
|Cost of Sales||Material and Production|
|Gross Profit*||Marketing and Administrative|
|Selling, General and Administrative||Research and Development Expenses|
|Operating Profit*||Other Income and Expenses|
|Other Income and Expenses|
|Pretax Profit*||Pretax Profit|
|Net Profit (after taxes)*||Net Profit|
Investopedia then goes on to explain the charts, noting the differences and expounding on their uses: “In the multi-step income statement, four measures of profitability (*) are revealed at four critical junctions in a company’s operations – gross, operating, pretax and after tax. In the single-step presentation, the gross and operating income figures are not stated; nevertheless, they can be calculated from the data provided.”
What challenges have you faced in interpreting your income statement?
Back to Basics – Managing Your Finances 101 – Week 1
The ornaments have been removed from the trees and packed away for next year and the cruise ships have returned from Mexico and the Caribbean, so it’s safe to say the holidays are over. As most individuals head back to work, entrepreneurs (who may not have stopped working during the holiday) are starting the year with a clean slate, new goals and high hopes for the opportunity of 2012. If you are one of the business owners who would like to get a handle on your finances, it is the perfect time for a refresher course. This month, we are featuring a blog series on the basics of financial reporting that every business owner should know:
Week 1: Examining the Balance Sheet
There are three fields on a balance sheet – assets, liabilities and equity.
Assetsrepresent things of value that a company owns and has in its possession. For example, the equipment that produces your products, accounts receivable from customers, or inventory that you are currently holding are all considered to be assets.
Liabilities are what a company owes to others – such as bank loans, supplier invoices, taxes and accrued employee wages. Liabilities are obligations that must be paid under certain conditions and time frames.
Equity represents the retained earnings and funds contributed by its shareholders, who accept the uncertainty that comes with ownership risk in exchange for what they hope will be a good return on their investment. Or, if the company is a sole proprietorship, equity represents the funds that the single business owner has invested in the company to keep it open.
The relationship of these segments is shown in the following balance sheet equation:
Assets = Liabilities + Equity
This means what your business owns is exactly equal to what your business owes plus what has been invested and retained in the business. As a company’s assets grow, its liabilities and/or equity also grow in order for its financial position to stay balanced.
How assets are supported, or financed, by a corresponding growth in accounts payable, debt liabilities and equity reveals a lot about a company’s financial health. Depending on a company’s line of business and industry characteristics, possessing a reasonable mix of liabilities and equity is a sign of a financially healthy company.
To see a sample balance sheet, you can visit our website at https://cfo-pro.com/balance-sheet. What questions do you have about balance sheet management?
Good to Great Financial Reporting
The most important elements of informative financial statements are 1) a well-defined Chart of Accounts and 2) an insightful classification (positioning) of totals in the financial statements.
Let’s take a look at how these elements are applied to a great Income Statement.
Sales: Each major product and/or service line should have its own account so sales for each are displayed on the face of the statement.
Direct Costs (COGS, COS): Direct costs are those that vary with the volume of sales and would not be incurred if sales did not occur. Examples are labor (and related payroll taxes), materials, subcontractors, royalty or licensing fees, and sales commissions. Codes for Direct Costs should correlate with the codes for product (or service) lines in Sales.
Gross Profit $ and Gross Margin %: With Sales and Direct Costs by product line, you can calculate the Gross Margin % by product line. This tells you at a glance which lines are profitable and which are drains. Also, accurate Gross Margin percentages can be used to make informed business decisions (see Issue #5—Using Breakeven for Decision Making).
Overhead (relatively fixed operating expenses): All operating expenses that are not classified as Direct Costs should be coded into clearly-defined Overhead accounts.
Income (Loss) From Operations: This number is Gross Profit minus Overhead. In investment and valuation circles, this number is called EBITDA—earnings before interest, taxes, depreciation, and amortization. It also represents Cash Flow from Operations. Businesses are most often valued at a multiple of EBITDA.
Other Income (Expenses): This is where all non-operating and non-cash items should be coded and classified, including interest income, interest expense, income taxes, depreciation, amortization, gain (loss) on sale of assets, and any other income/expense that is of a non-operating nature.
Net Income (Loss): Your bottom line is where all the chickens come home to roost. Are you healthy?
Financial reports are a lens through which you assess your present position and set your future course. You can refine that lens by taking your financial reports from good to great.
The Wisdom of Henry Hazlitt (1894-1993)
A hoodlum breaks the window of a baker’s shop. Onlookers decide that the vandalism has a bright side: a glazier will make $250 repairing the window.
Hazlitt disagrees. The glazier’s gain is money that the baker was planning to spend on a new suit. The onlookers did not take into account that a tailor lost a $250 sale and the baker lost a suit. No new employment was added—the scenario is a net loss.
– from Economics in One Lesson