Supply Chains to Admire15.09.2017
We are launching series of publications dedicated to the main components of effective financial management, from the proper planning to the cost reduction strategies.
The majority of entrepreneurs work with high-level figures: sales, total costs (operating and capital in total) and net cash balance. However, this approach does not answer the questions “Why did we earn less this month, although we sold more?”, “How do I improve the profitability of the business?” And “How effectively do I use the available resources?”. Most importantly, in terms of general numbers, you will not be able to identify fraud within your company and estimate how much money you lost as opportunity cost.
The basic management accounting consists of 4 key blocks:
Assessment of the results of the period
Identification of progress and areas for improvement
Financial planning is a more structured vision of business development. Simplified, financial planning is a business plan and business strategy, translated into the level of revenues and expenses, which facilitates decision making process.
The financial plan allows the business owner to think in advance where he wants to lead the company and calculate what he will need for this. Companies that correctly plan their activities are much less likely to face problems such as shortage of cash, inability to meet customer demand, shortage of personnel, or unforeseen growth in production costs.
Common goals of financial planning can be reduced to 7 items:
Periodical results assessment
After the financial plan, you should concentrate on the periodic reports to check whether your company is going towards the set goals. Large companies make a slice of reporting on all indicators of income and expenses of companies once a month, and reports on sales on a weekly basis. It is necessary to notice significant deviations in time and make a decision to adjust the tactics.
For example, Alexander planned sales at $ 200,000 monthly, with peak sales of $ 400,000 in the summer, according to this plan, he purchased raw materials, equipment and recruited people into the team. But after the first month, he realizes that sales do not reach 50% of the goals set. In this case, if Alexander does not act in time, he runs the risk of remaining with increased costs (according to the original plan) and unreached sales, which sooner or later will bankrupt the company.
The most common situation faced by representatives of small and medium-sized businesses is the effect of “success blindness”. For example, Dmitriy’s company has consistently generated good profits for several months. He decides to buy a car of his dream or take his family to the most expensive resort, having withdrawn money from the company. However, he does not notice that sales have been steadily declining in recent months, because they do not sum up on a regular basis. As a result, he faces a lack of money, when the initial interest decreases, and the company spends as it is used to spend. As a result, Dmitry gets a cash gap, and he does not have ready reports and data to get a loan, which causes the process to drag on for a month, or even more. During this time the company can go bankrupt and shut down.
Therefore, effective companies track their sales weekly in order to monitor implementation, and the overall results monthly, in time to adjust expenses. Traditionally, the results are measured against the plan, the previous month and the previous year, then the manager can determine the overall dynamics of the company and the key reasons for any deviations.
Determination of progress and areas for improvement
This block differs from the usual assessment of results in that it includes operational indicators other than financial ones. After receiving the results of the period, you should look at the key deviations in more detail in order to determine the root causes of the failures and take appropriate measures. For example, if your advertising costs do not exceed planned, but nevertheless, sales growth is much less than expected, then the effectiveness of the marketing strategy is questionable.
After identifying key deviations, you can generate indicators to track progress. Usually, each business has its own set of key indicators in accordance with long-term and short-term goals, which are then tracked on a monthly basis.
Progress can be measured in many different ways. In addition to indicators of sales growth, this can be a reduction in overhead and production costs, reducing turnover, improving the effectiveness of marketing campaigns, increasing Internet traffic and so on. But the key benefit of measuring progress is the ability to identify areas for improvement, identify complex business issues and sources of competitive advantage, which will allow timely changes in strategy, tactics or business model.
Making each change can be a headache for the leader, because the team often continues to work the way they are used to. One way to implement changes in the existing business model is to put up control points with reference to individual indicators and employee remuneration.
This approach is called building a KPI tree, when the company’s key performance indicators start from global goals and companies and go down the hierarchy of the organizational structure to the individual indicators of each employee. If desired, the manager can link a portion of staff salaries to these indicators, thus motivating them to develop themselves, improve their work and lead the company to success.