Good Management Information is the Key to Better Business Performance
Can you answer any of the following questions about your business?
1. What single item in your business has the biggest impact on your cash flow?
2. Which one of your products or services contributes the most to the bottom line?
3. What is the value of your business?
4. What is the maximum sales growth that your business can realistically sustain in the coming 12 months?
It is important that fundamental questions like these can be readily answered. If you are confident you can answer these questions then you have an appreciation of the critical financial relationships that impact on your business. As a consequence you are in a much better position to make proactive decisions which can improve your business performance and lead to better cash flows, increased profits, increased business value and a better return on your money.
Because of economic pressures and time constraints, many business owners and managers are forced to think in the autopilot and often resort to running on gut feel. They don’t take the time to undertake detailed analysis of their businesses financial performance. Inevitably this can lead to poor decision making. You need to be able to answer the questions above and understand what the consequences of the answers mean to your business.
Photo: - Brenda Starr
The Evidence & Intuition.
In a recent blog post I outlined the 5 aspects that make our intuition unreliable and inconsistent. We need to consider the alternative to purely relying on human intuition in business. There are numerous factors in play in business from the various market forces to the various customer, direct customer base to internal team issues, government issues, economical issues etc. Even the simplest business has a number of factors at play and relying only on human intuition means that some flawed decisions are being made.
I must reiterate that I’m not saying that we must never use human intuition. My point is that leading & managing only by intuition is a problem.
As I have asked in recent days “how do you know”. We must look at data and understand what pattern is in the data. But it is not just any old data. Just because it is easy to get it does not necessarily mean that it is important.
The first step is to understand what is driving the business and then determine what we need to measure.
There are a raft of statistical techniques designed to find patterns and I don’t wish to complicate the management of small business in referring to statistically techniques however a number of these are very simple to utilise in a small business but can be extremely useful.
The use of statistically techniques can be applied to any setting including wine evaluation. Princeton economist Orley Ashenfleter predicts Bordeaux wine quality and hence eventual price using a model he developed that takes into account winter and harvest rainfall and growing season temperature. Massively influential wine critic Robert Parker has called Ashenfleter an absolute total sham and his approach is so absurd as to be laughable. But Ashenfleter was correct and Parker wrong about the 86 vintage. Also his way out on a limb predictions about the sublime quality of the 89 & 90 wines turned out to be spot on.
It’s not just wine that we can analyse the data to determine a more accurate prediction or to make a more informed decision.
But we need to measure what is important to the success of the business. This success factor will be found in the operations of the business not the financials.
To illustrate the power of looking at the evidence a paper in 2000 surveyed 136 studies in which human judgement was compared to algorithmic predictions. 65 of the studies found no real difference between the two and 63 found the equation performed significantly better than the person. Only 8 of the studies found that the people were significantly better predictors of the task at hand. If you are keeping score that’s just under 6% win rate for the people and their intuition and a 46% rate of clear losses.
So why is it that we continue to place so much stock in intuition and expert judgement. Overall it is clear we get inferior decisions and outcomes in critical situations when we rely on human judgement and intuition instead of hard cold boring data and measurement. This may be an uncomfortable conclusion but it’s the fact. We need to make better judgements thus we need to have those boring data and numbers.
Again I’m not proposing that we remove or dispense with the human expert or the human business owner but rather we couple the humans in the middle of an evidence based process. This has been the situation with medicine where the evidence conducted from numerous studies of techniques and processes and drugs pave the way for doctors to provide the correct diagnosis but it hasn’t removed the need for intuition of the expert specialist to make a judgement call. They are just being able to make it with the cold hard facts and the knowledge of the studies undertaken previously.
In a business if we have the information if we have the right numbers, if we have the right measurement then the management will be able to have this as their starting point for making decisions and determining the future of the business. Surely these decisions will be better informed as a result.
The one main number is not found in the financials.
Businesses are used to collecting the financial information and with their accountants compiling financial reports. But the one main number that is driving the business is not found in the financials. The one main number that will predict where the future of the business is going is not in the financial data.
Because we are measuring the accounting data it is easy to be tempted to use this information to lead and manage the business. The accounting data though is a history statement and is useful to review but you will never find the engine of the business in these statements.
The one main number will be found in the operations. The operations of the business drive the future of the business. But be careful. It is imperative that we understand what is important to the customer to determine the engine of the business.
A great example from a few years ago is Contintental Airlines from 1997. Gordon Bethune became the CEO the airline had as the one main number as :- cost per airline mile. Now whilst this significantly impacts on the bottom line it is not what the customer sees as important. It lead to behaviour to reduce the quality of meals, fittings etc. Gordon changed this to :- on time arrivals. This changed the focus to something that the customer value. The airline went from worst to first.
The one main number was in the operations. Importantly though it was what the customer see as valuable.
How will you know?
In the recent blog post I asked a question that was provoked by a podcast by Joseph Michelli about “How do you know?” In other words, what data are you relying on in your business to make decisions?
The question now is “How will you know?” I’m here looking at the future, that you have some goals and objectives in the business, but how will you know whether you’ve achieved them?
See, often goals and objectives can be nice words but it is not clear that we will know when we’ve achieved those nice words. Words are important in a business, critically important, but also just as important is the data.
What number are we focusing on? What is the critical main number that we are targeting in the next 3 months, 6 months, 12 months? What is the number or the measure that matches those nice words in our strategic objectives and goals?
It doesn’t matter whether the organisation is a small local business, a big business, or a not-for-profit organisation. We all have a purpose with the services or products we are providing and we all want to achieve a better result in the future than we have in the past.
So the question that I ask is “How will you know” that you delivered a better result? What is the one main thing that will tell you that you have delivered a better result?
How do you know?
Recently Joseph Michelli gave an excellent podcast and also the transcription was up on his blog, asking the question “How do you know?”
In his podcast Joseph talked about in his experience of dealing with some business clients, that they’ll state a particular situation is the case and Joseph will then ask the question “How do you know?” What data is being collected to verify this stated fact?
I would like to also endorse the comments of Joseph Michelli. It is critically important in business to have the facts at hand to make informed and correct decisions.
Too often assumptions are made about how the customer is behaving, how the staff are behaving, that are not actually based on fact. They may be generally held belief within the business or organisation, but nobody has undertaken the task to collect some data to verify the reality. Yet it is only with this data that you have a starting point to determine how to improve the business, or a part of the business.
Data does not to be collected using the most complex IT system, collecting everything. There are many simple tracking and analyst tools for collecting useful data of a business. The key thing is actually to determine what area is important that we need to focus on.
What is the engine of the business? What has the potential to drive future value in the business. Often there is one key area that the whole business needs to focus on for a period of time, or it may be one area per division of the business. But it is important to have the data as the starting point.
Don’t make assumptions. Don’t accept generally held beliefs without some verification. The data allows informed decisions, and the application of intuition to the development of the business. Constantly ask yourself an your team “How do you know?”
Photo :- LauraKGibbs
9 indicators to use for cashflow analysis
Cash flow is the lifeblood of any business. It is imperative that we have a system to analyse and manage the cashflow.
So lets look at some important key elements to cash flow management and analysis. Cash has a cycle through a business. Each dollar or revenue incurrs direct costs. After this there are other variable costs and overheads which are met. But from this net income a business must pay its taxes and any loans or other finance obligations. It is the complete understanding of the cycle of cash in a business that leads to great cash flow management.
Working capital is that which is difference between current assets and current liabilites. Current assets include cash, inventory, accounts receivable and current liabilities include accounts payable and other short term finance facilities.
Accordingly we must calculate the average days it takes to collect our accounts receivable and the time it takes to pay the accounts payable. Also it is important to measure how often we turnover the inventory or stock. Each dollar of stock is a dollar less of cash. The faster we turn over the stock the better the cash flow will be. If we are turning the stock over fast then we are making the dollars we have invested in the stock work harder for us.
So from this we are measuring :-
- Debtors (accounts receivable) days
- Creditors (accounts payable) days
- Inventory days
From this we can then calculate two more important measures :-
- Working capital cycle - which is Debtors days + Inventory days - Creditors days
- Working capital % - which is ((Accounts receivable + Inventory - Accounts payable)/Revenue * 100)/365 * days in period.
The higher the working capital cycle the more costly it is to fund.
After this we then need to look at the situation from an overall perspective. This can be done by calculation the cash from operations and the net cash income. Cash from operations means the cash generated prior to interest,tax, asset purchases and any dividends or drawings. Net Cash income is the cash left after the payment of all obligations.
Related to these we can calculate the profit to cash conversion ratio. This is the percentage of Earning before interest and tax that is converted into cash after operations. This can indicate the connection between cash and profit. But remember profit is not cashflow.
So the three extra things to look at are :
- Cash after operations
- Net Cash Income
- Profit to cash conversion ratio
Lastly we can look at:
- cash wastage.
This is where we compare the growth in accounts receivable, Cost of Goods sold and Operating Expenses to revenue growth. Growth is in excess of revenue growth then this is cash wastage. If growth in inventory is more than Cost of Goods Sold gorwth it is considered waste. Whilst a growth of accounts payable which is less than Cost of Goods sold this is also considered waste. The cash wastage is unsustainable growth.
This is on overview of cash flow analysis and if you have any questions please contact me.
The Three most important things to measure in any business.
“The three most important things to measure in any business are customer satisfaction, employee satisfaction and cash-flow” Jack Welch former ceo of GE.
I don’t agree with all that Jack says or did in his tenure at GE however on this point I am in total agreement.
Customers who are not happy will buy elsewhere. Employees who don’t enjoy working for your business will move on and work for your competitors and the replacement employee will be costly to replace. Lastly if a business does not completely understand its cashflow and is totally in control of it then the business growth can suffer.
Measuring customer satisfaction is more than just a quick survey from a call centre. We need to understand whether the customer is truly satifised with the complete experience in dealing with the business. We need to ask the right questions in the right manner. Customer surveys can work if carefully desgined. However there may be other ways to measure customer satisfaction eg in a professional service firm it would be appropriate to measure the number of referrals. A customer will only refer if they are happy. Singapore Airlines measure the number of complaints to the number of compliments ratio to address this issue. Whatever the measure everybody needs to understand it and then it must be tracked consistently.
Employee satisfaction can also be measured by a carefully executed survey. Unfortunately many of these surveys are not properly designed or carefully executed. Also there are other measurements that can be useful eg staff turnover rate (this needs to be tailored for each level of the organisation). Again whatever the final tool, everybody must understand the metric and then it must be consistently measured and reviewed.
Lastly a business must understand the cash-flow cycle. There are a number of operational and capital impacts on cashflow. To manage a business it is necessary that this is understood. Accounts receivable, accounts payable, new equipment, new loans, repaying loans and other finance obligations, owners drawings and contributions are only part of the equation. The complete cashflow of the business must be managed at a minimum each week if not daily.
Also some of the component parts need constant measurement eg debtors and creditors days. Recently in a business they had not previously being measuring debtors days. When I started it was 43 days. Purely because they started measuring it and the accounts staff and the owner were suddenly aware they took action and now the debtors days stand at 29. This has lead to a significant improvement in cash-flow.
What systems to you have to measure customer satisfaction, employee satisfaction and cash-flow?
Unintended consequences of how sales people are paid.
Recently Ingrid Cliff of Heart Harmony (a great copywriter) wrote of her experience in buying a car on her blog. She had narrowed the choice down to types - Mazda 6 and Toyota Camry. However upon going to the Mazda dealership she had the following experience -
“He was selling beautifully till he sat us down. We told him we wanted to buy in the next week, we would be paying cash and wanted his best price so we could make a decision which way to go – Camry or Mazda. He wandered off to see the boss, came back and told us that he wouldn’t give us a price now as we were not serious, but when we were serious next week to come back and see him. He gave us a rough ballpark figure on the new car with the options we were looking for (after being pressed for the info).”
A number of years I had a similiar experience. As you can guess Ingrid did not buy from that dealership and I did not buy from the dealership were I had a similiar experience.
Why do some car dealers adopt this approach?
Now there are likely to be a number of reasons, one of which is a complete lack of understanding of customer service and also their belief of how to force a sale. However I believe that a significant contributing problem is how sales people at dealerships are paid.
The industry standard is for the majority of their package to be commission based. The logic of this is that the sales people will highly motivated to close the sale which will deliver results to the dealership. The dealership do not want their sales people standing around or wasting their time so the incentive system is used to show what is important and to motivate them. The trouble is the sales person that Ingrid met was doing exactly what the incentive system told him to do. The sales person did not waste time with a potential customer who was not going generate commission immediately.
But the dealership having spent money on advertising and marketing to get people into the showroom I am sure they would want to build a relationship with all customers so as to do with business over the long term. The management probably did not have the attitude of making the sale immediately. The commission based pay structure used to motivate the team is causing a business result which does not lead to loyal long term customers.
Another issue that the commission pay structure undoubtly has an impact on, is who is attracted to become a car salesperson. I have seen dealerships advertising sales positions highlighting the fact that a successful person can earn significant income. This will attract a certain personality to the business but is that the personality the business should have. If the business wants to deliver a great standard of customer service and build loyal customers then the incentive system will recruit people who are after the sale now.
Whats the point? The point is that pay structures with financial incentives can have unintended consequences. It will create certain behaviour but it is not necessarily behaviour which the organisation may want. Be careful about designing commission and other financial incentives as part of employee renumeration. If the car dealer want’s more loyal clients then it could be radical and remove this commission structure. There are car dealers who are going down this path. We need to carefully design our metrics and compensation systems to ensure it matches the strategic objectives of the business.
Remember be careful what you ask for as you may just get it.
“Not everything that you can count, actually counts’
Einstein is credited with this quote. He as usual was completely correct.
In the 1750’s Jedediah Buxton was taken to see Shakespeares Richard III performed by David Garrick at the Drury Lane Theatre. At the conclusion upon being asked his opinions he answer that there were 12445 words. He missed the point though his word count was accurate.
This is very applicable to business. I was just reading of person who said in the organisation she worked for she had the responsibility for 137 Key performance indicators. She went onto to say that she only concentrated on 7 but those 7 may not necessarily be what her management focused on. 137 KPI’s show an organisation that is counting everything they can count.
It seems that business can lose sight of what the role of metrics in an organisation is.
These metrics are are known as KEY performance indicators. Something is key when it is of fundamental importance to the business. It is key if it is a make or break, the difference between success or failure. There is no way that the 137 KPI’s are all key to the businesses success.
The success that needs to be considered is that which is important in the eye’s of the customer. We need to define success the way the customer does. This means that we need to completely understand the customer. What is it that they like and hate about your organisation? Often the core product or service is not what the customers sees as the value from dealing with your organisation. It is usually a number of little items that surround the delivery of the core product or service.
The next aspect is PERFORMANCE. It is the items that the organisation is performing and whether they are delivering on this promise. Performance is around those things / processes that the organisation can control. For instance an agricultural company is significantly affected by the weather but it can not influence or control this.
The last word in the trio is INDICATOR. Indicator means it is providing information on future performance. Because it is easy to measure history ie balance sheet we spend too much time and effort on these. We need to spend the time on developing indicators that give us information that we can make decisions about the future on.
Lastly another significant problem of counting everything eg the 137 KPI’s is that nobody focuses on them. The person I relate was only concentrating on 7 but her manager may be focusing on a different set. A lot of time and effort was being spent to collect this information but it was wasted. A key purpose of implementing KPI’s is to provide focus for the organisation to achieve its KPI’s. With some people focusing on some KPI’s and others concentrating on a different set you automatically set up a situation for tension.
Focus on what the customer defines success and implement KEY PERFORMANCE INDICATORS around this.
Three measures of profit a business needs to know.
Often we have a measure of overall gross profit and net profit of the business but there are three profit measures we need to pay more attention to.
These are :-
- Profit that each product or service contributes to the business
- Profit that each customer contributes
- Profit that each job,task or sale contributes
Overall profit of a business could hide a lot of things. There could be products / services, customers or jobs that are unprofitable. If we armed with the information then we can make decisions.
Some years ago I was involved in a project for a business where the profit per product was measured for the first time. There was 242 products and the project found that only 72 of these were actually profitable. There were another 45 that were marginal which meant that maybe with some improvements these may become profitable but the rest were unprofitable. This business had been providing a large number of products which were costing the business even though overall the business was profitable.
All customers are not good customers. A good customer is one who is profitable and a great customer is one who also refers people to our business. But the business needs to know the contribution of the customer to the revenue and profit. Businesses need to get rid of the unprofitable customers so that focus can be given to the great customers to build that relationship.
Lastly there may be jobs or tasks within a product line offering that are not profitable. With this information we can then determine how to make this more efficient or to make changes to the product / service offering.
All businesses need to know these three measures of profit.
What are your thoughts?
-
Subscribe to Major Focus Group
Or, subscribe via email:
-
Subscribe to our FREE newsletter, The Focal Point and get your FREE copy of How to have a Focused Business.
We respect your privacy: No spam mail and you can unsubscribe at any time.