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A
typical scenario: you sit down to deliver a set of
financial statements to a client and it is clear that something has
negatively impacted the profitability of the company. Often times the
discussion centers on what has happened, leaving it up to the client to
figure out the next steps. While financial statements do an excellent
job of highlighting changes from period to period, they lack the insight
and perspective to specifically address the issues that created the
downturn. Another way to think about it is that although the financial
statements are accurate, they may not be relevant or insightful. What if
instead of just delivering the financial statements you were able to
convert that discussion into months of value added consulting work? You
can! Hundreds of CPAs are already doing this by educating their clients
about The Profit Equationsm.
The Profit Equationsm is a formula that
identifies the real drivers of profit. Here’s what I mean. In its most
simplistic form, the formula for measuring profit is:
Revenue - Expenses =
Profit
This formula
captures the culmination of many factors that result in a particular
outcome. The formula tells us what has happened and it may serve as an
indication of a future trend; but it does not identify the specific
strategies that may need adjustment or improvement. It’s a bit like
going to the doctor for the diagnosis of an ailment (which you probably
already knew you had) and then being sent home without a treatment plan
for improving your condition.
If we are
being really honest with ourselves, clients are delivered financial
statements everyday that are an accurate reflection of what has happened
but do not provide any real value for the future. To bridge the gap
between what has happened and providing guidance for the future, we must
have a different perspective. That perspective is what we refer to as
The Profit Equationsm—the
formula for business success.
The formula
behind The Profit Equationsm
highlights the absolute need for a balanced perspective. It says we not
only want to measure profit, we want to improve it. To do that, we need
to look deeper into the activities that generate revenue and drive
expenses. The formula to do this is:
People x Process = Profit
These
activities are usually non-financial and therefore do not show up on
financial statements. The Profit Equationsm provides a balanced
perspective.
These
balanced factors are what drive business success.
If we spend
our entire focus on lagging financial indicators, we end up with a
lopsided view of the business. By acknowledging that revenue and
expenses are functions of people’s behavior as they operate within a
company’s processes, we gain a much more balanced perspective. The
Profit Equationsm
creates a link between leading and lagging performance indicators.
So the
question of the day is, do we want to measure profit or improve it?
Which has more value to the client? Which provides the greater
opportunity for the CPA? The easy answer is to improve profit because it
helps clients get to where they want to go and it opens the door for the
CPA to help them get there. The real answer is that there is value in
both measuring and improving profit. Without the measuring of the past
to serve as a benchmark we can’t determine what it will take to improve
the future. So the good news is that financial statements will always
have value. The even better news is that there really is a way to add
value to traditional services that will benefit both you and your
clients.
Having worked
with hundreds of CPAs over the past decade, I have met many
practitioners that have gone beyond the traditional delivery style of
financial statements to one that has more value for the client. They
often include industry trends and benchmarking data as well as detailed
analysis of the financial statements in graph form—in color too!
Although this is helpful, it is a long way from helping clients to map
out their next steps. Recognizing this, many CPAs have said that it
feels inherently wrong to tell clients that they have some ailment and
then leave it to them to try to figure out their own treatment plan.
We
agree—there has to be a better way. In fact, there is. Many CPAs are
arming themselves with tools and resources that are aligned with The
Profit Equationsm
philosophy and making a real difference in their clients’ businesses and
lives, not to mention making more money and having a lot of fun doing
it.
There are
software tools that take traditional financial statements and translate
them into discussions not just of revenues and expenses but of people
and processes too. The software can take any financial outcome and drill
down to the factors that drive that outcome. The software then generates
a sensitivity rating to those factors, identifying which ones will have
the greatest impact with the least amount of effort. In a matter of
minutes the discussion has gone from “ your
margins are slipping” (a
financial outcome) to “here’s what you need to focus on” (a people
and/or process issue). As a result, the client has a clearer
understanding of what his/her financial statements really mean, what
their value is, and most important how to manage the business better.
In their
book, Transforming the Bottom Line,
Tony and
Jeremy Hope discuss the oversight that most companies make by putting so
much emphasis on financial information:
“To create the right framework for
transformation, owners (and their CPAs) must think differently. They
must redesign their management structures to focus on the customer,
change the emphasis of their accounting and reward systems from one of
control to one of improvement, and create a climate of trust and
openness with people by developing common purposes and sharing
information. Above all, they must challenge the primacy of their
financial budgeting systems, and focus their efforts on improving
products, services, and processes.”
To get started, try measuring the following
People x Process oriented* activities: customer attrition rate,
customer acquisition rate, average sale, frequency of contact, cost of
goods and overhead. These six indicators are a good starting point
toward a balanced perspective on the company’s measuring revenue
and expenses alone could not achieve. Much of the data you need to track
these key indicators is readily available. By setting up a simple “flash
report” or “leading indicator spreadsheet” (the CFO-KPI software does
this), you can provide your client with more accurate, insightful, and
relevant information with which to make management decisions. By
applying this simple measurement methodology, one CPA helped her client
reduce his annual advertising expenditure by over $250,000 without any
reduction in effectiveness.
Another CPA has added over $400,000 in consulting
work in the past two years by helping them gain a more balanced
perspective.
Ultimately, the goal is to create a link between
people and process-driven activities and revenue and expense outcomes.
That link, and the education inherent within it, creates an environment
of empowered, knowledgeable employees who understand how their behavior
impacts the financial outcomes of the company. This type of transparent,
real-time performance feedback program gets everyone, from the janitor
to the CEO, working in concert to achieve company goals.
By changing your focus from measuring profit to
improving it as well as focusing on lagging indicators and leading
indicators, you and your clients will discover how The Profit Equationsm
can help to achieve business success.
* Attendees at The Profit Equationsm
seminar receive The Profit Equationsm Planner that automatically calculates these
factors. They also receive a free demonstration copy of the CFO-KPI
software offered by ACCPAC as well as other Profit Equationsm marketing and analysis tools. For more
information on the seminar schedule contact Mentor Plus. Or go to
www.mentorplus.com/profitequation.htm
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