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.
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.
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?