Business owners run their business to make money, right? Then why do so many owners make unprofitable decisions?

There was a great article in the Wall Street Journal titled "Major Airlines Fuel a Recovery by Grounding Unprofitable Flights." The article talked about the progress that U.S. airlines are making to become profitable and provides several valuable points for business owners.

In one part of the piece, writers Evan Perez and Melanie Trottman noted:

"The big carriers, which for decades have doggedly pursued market share at any cost, now are focusing just as aggressively on the profitability of each route and flight. The so-called legacy carriers... have abandoned many of the tactics that have contributed to their cyclical weakness. They are increasingly unwilling to fly half-empty aircraft to stay competitive on a given route just for the sake of feeding their nationwide networks.

Though their recovery is still in its early stages... the airlines' new emphasis on profitability appears to be paying off."

Imagine that!

Running the business in order to make money appears to be paying off. A brilliant strategy, indeed.

There are several fascinating points here that I would like you to carefully consider.

Be a Lover of Reality

If you ask a business owner whether he runs his company to make money, the answer will always be "Yes." The reality is that he doesn't. At the risk of sounding a bit blunt, you don't either. This is an important reality to recognize and accept.

Try this little test for the next 30 days. Listen for anyone in your company (including yourself) using words like "brand," "market share," or "shelf space." When you hear those words, you can be sure that you've just found an opportunity to make some money.

Why? Because those words always are used to justify unprofitable decisions. They are big red flags that you are not making decisions based on a common-sense approach to profitability. When you hear those words, ask yourself this simple question, "Are we making this decision based on profitability or for some other (possibly hidden) reason?"You have to clear away the smokescreen in order to put your focus on profitability and common-sense decision making.

Is Market Share Your Mantra?

For example, when you hear an executive justifying a decision based on its supposed impact on market share, he's really saying, "I want to look good versus the competition, but it's a lot easier to give our products away than have to sell them at a profitable price."Here's what happens when market share becomes your mantra. The sales force gets the okay to start selling on price. Your salespeople cut prices in order to generate volume. The volume comes and the company ramps up quickly to meet the new demand. That ramp up always drives costs up. In a manufacturing company, for example, the increased production creates capacity issues, and it begins to see requests for capital expenditures to solve the problem. Meanwhile, the competition has lowered its prices to try to get some of the business back. The sales force has gotten used to selling on price, so it comes back to you with a plan to foil the competition by lowering the price--again. Profitability continues to be driven lower and lower while the need for cash to support the higher revenue goes up. That's a recipe for disaster.

This happens to company after company despite how illogical it sounds. You have to battle it out by sticking to your guns. You have to be maniacal in your focus on profitability.

Start by removing market share from your company's vocabulary and see how fast you can improve profitability. Remember, one of the fastest ways to make more money is to stop doing things that lose money.

I recently had a conference call with one of my partners and an engineering client of his. They were curious about whether QuickBooks could handle their requirements for invoicing. QuickBooks has a very rich set of functionality which allows a company to charge their clients for billable activity of their employees and track those costs to the customer and produce great Job Profitability reports. This article describes how this is accomplished.

Click here to read the article

I’ve been giving a fair amount of consideration to mission statements lately, and the impact they have on the bottom line.  On the one hand, I’d like to say that they tend to be too general and not influential enough on the day to day performance of a company.  On the other hand, I realize that a carefully crafted mission statement can make an enormous difference in the unity of your employees and the strategic direction of the Company as a whole.

If your mission is something really long and vague, like  “Our mission is to create a friendly work environment where our employees work hard to ensure that our clients are satisfied with our products and that our customer service is great.”, then you aren’t really helping yourself or your employees to drive in any particular direction.  There’s no real world application to a statement like that – no way to measure its effectiveness.

On the other hand, take a look at some really great mission statements:

Google: "To organize the world’s information and make it universally accessible and useful."

Walt Disney: "To make people happy."

Western Union: “the fastest way to send money worldwide”

A mission statement doesn’t need to be long, and it doesn’t need to capture every aspect of your business.  It just needs to speak to the heart of the company – the power that drives success.  If all of your employees are working toward a common goal (like making people happy) and it’s front of mind, then their behaviors and decisions are much more likely to align with the vision of success the owner has for the company. 

If Disney’s mission was to produce great movies for kids, or build amazing theme parks, or the like, they might have missed the mark in terms of the consumer reaction to their products.  By focusing on making people happy, they actually have greater flexibility to engage in multiple revenue streams, channels, geographies, etc.

So as you begin to consider who you are and who you want to be in 2011 and beyond, your mission statement might just be the right place to start.  It might even be the driving force behind your future successes. 

We’re wrapping up the Summer of 2010, and that means one thing.  You should now begin planning your 2011 budget.  While 2011 may be a better year for your business, you should not assume so without first carefully looking at your business, your competition, and your customers.  At a minimum, prepare a contingency plan . . . but more about that in a future article.

The principal reason to budget is to help you focus on everything you do which can increase sales and profitability.

Here are a few suggestions of areas you should consider, a simple checklist for 2011:

1.   Outsource.  Look at every function that is performed and consider outsourcing to reduce costs and to improve performance.

2.   Cut your personal expenditures.  This action frees you up from worrying about those costs if the business is still slower than you’d like.

3.   Reduce your personnel costs.  Instead of hiring new full-time employees, consider part-time employees that can help with the work-load without incurring all the costs for a full-time employee.

4.   Take advantage of tax incentives.  If you are hiring, look into possible incentives for training and tax holidays.

5.   Decide about year-end bonuses now.  If you won’t be able to give a bonus to employees who have received them in the past, tell them now so that they can plan accordingly.  You don’t want to have that kind of negative surprise later this year.

6.   Reward employees for cost-saving ideas.  A gift card to someone who suggests ways to reduce costs or be more efficient is a way to motivate employees and thank them with something tangible.

7.   Raise prices.  You may not be able to do so, but don’t overlook this possibility if you haven’t adjusted your pricing recently and, in particular, if your costs have increased.  You’re at least trying to hold your own in this economy – not go down with the ship.

8.   Communicate with your customers and prospects.  If you do so using an eNewsletter, for instance, there are ways to identify who clicks on a link to a story or a product, and that might help you with your marketing and sales plans.

9.   Update your website.  That’s an entry point for many buyers.  Offer some promotional incentive to move inventory.  (And consider other social marketing alternatives.)

10.Educate your customers and prospects.  Use your website to provide information that will enhance your position as an expert in your field.

11.Offer something for free.  It could be product, or an hour of consulting services.  Something to make people think about you and what you sell.

Finally, if you don’t receive reliable financial statements – statement of operations, balance sheet, and cash flow information – on a monthly basis, you need make changes right away.  You simply cannot manage your business without that information – and that’s your principal responsibility as the owner or president of your company . . . to manage.  (That’s also why you need to prepare that budget!)

The theme of my Blogs for this year is what I would include in a book about small business finance and accounting. This month I discuss increasing company value.

Company value has two basic components, Intrinsic and Extrinsic value drivers. Company value is ultimately determined by a multiple of anticipated cash flows, typically defined as EBITDA (Earnings Before Interest, Taxes, Depreciation & Amortization). The multiple is ultimately based on the anticipated return on investment and includes a risk premium, that is the higher the perceived risk of the investment, the higher the required return and thus the lower the multiple of EBITDA.

So let’s look at the intrinsic value drivers first. Intrinsic areas to consider are Policies & Procedures, including an Employee manual(s), Accounting and Finance Policies, an Internal Control review, and monthly financial statements that are timely and accurately prepared. Additional items would be agreements with key employees, Non Compete, Non Disclosure, Non Solicitation, and Confidentiality agreements. Further considerations may include properly protected Trade Marks, Service marks, and Patents. Finally are the corporate books up to date, are there shareholder agreements, but sell agreements and key man protection?

Why are the intrinsic value drivers important? Simply put, they reduce the risk to a potential buyer of a company and this increases the multiple of EBITDA they are willing to pay for a given company. Accordingly, everything else being equal, these intrinsic value drivers can push up the value of two similar companies with the same earnings.

Extrinsic Values relate to the financial performance of the company, its industry, past and projected growth, and the economic outlook in general. The growth potential, key management personnel and how the company will move forward are key external valuation drivers. Another consideration are artificially reducing (or increasing) EBITDA. Determining the normal and customary costs Vs the costs of the company can be an add back (or reduction) to the EBITDA number. These extrinsic value drivers drive the cash flow of the company, the key valuation metric. Further, this is an area where a part time CFO can impact your business by increased profitability, additional growth, and increased cash flow. Every dollar of increased profit is multiplied by some number and thus increases the company’s value.

Ultimately, companies have a range of values. These are Fair Market Value, Investment Value and Synergy Value.

·         Fair Market Value is typically the lowest valuation is defined in part by IRS guidelines, and is used primarily for gifting, ESOPs, and other internal transfers.

·         Investment Value is the amount and investor will spend and is based on an anticipated return on their investment (ROI). This is typically more than Fair Market Value, and less than Synergy Value.

·         Synergy value is typically a purchase by another company in the industry that believes the value of the acquisition is worth as the growth in profits will be significantly increased by adding new customers, reductions in overhead costs and other areas. This is often shown as the equation: 1 + 1 = 3. This means they will pay more to increase market share, integrate their products with a new customer base and deliver other opportunities to increase revenues and reduce costs.

A part-time CFO can significantly assist the business owner drive business value. Their experience in increasing growth, profitability and cash flow as well as reducing the risk to a potential purchaser can significantly increase your firms intrinsic and extrinsic values!

Stephen Strasburg, a much heralded rookie pitcher for the Washington Nationals, who came up to the major leagues earlier this year, may undergo Tommy John surgery. Sports Illustrated described Strasburg as “most hyped and closely watched pitching prospect in the history of baseball.” Some people even argued that he should have been selected to the National League All-Start Team despite being in the majors for only a few weeks.

Many pitchers successfully have come back from this surgery and continued their careers (83% of athletes according to a 2008 study by the American Orthopaedic Society for Sports Medicine). Kerry Wood, a pitcher with the NY Yankees, was a Chicago Cubs’ phenom in 1998. He was named Rookie of the Year and tied Rogers Clemens record for strikeouts in a nine inning game with 20. The next spring he had the surgery. Although he came back to pitch again in the 2000 season, many baseball people argue that he never did live up to expectations. He has been on the disabled list 14 times in 13 seasons.

If Strasburg is among the 17% who do not make it back, he won’t have to worry about paying the bills, after all, he did sign a $15 million guaranteed contract with the Nationals in 2009 (only 77 seconds before the signing deadline). He is the exception to the rule, not everyone is as fortunate. How many business owners have a $15 million financial cushion to fall back on?

When I ask a business owner about plans for his or her business, the answer is usually, “I’m going to be working in my business for a long, long time. I’m not worrying about retirement yet.  I’m not going anywhere.”

My reply is, “Everyone is going to leave their business someday; the only question is when? Will it be by your choice or will some other event make the decision for you? What about factors not under your control?”

You can almost see the light bulb go off when the person has what I call, The Aha Moment.

The rest of the conversation is usually about the need to develop Plan B. The owner needs to consider things that might occur and possibly derail their future plans. The purpose of the exercise is to consider the possibilities and what, if any, the appropriate action should be. If a worst case scenario doesn’t occur, that’s great. However, if something does happen, you won’t be caught like a “deer in the headlights.”

Ed Baloga is a New York based partner and business advisor with B2BCFO® and can be reached at ebaloga@b2bcfo.com.

It was recently said that talking to business owners about long-term planning in today’s economic environment is a bit like a doctor telling a critically wounded patient in an emergency room that ‘they need to exercise more and watch their diet to be healthy’.  Of course, the emergency room patient is mostly focused on their short-term needs, such as fixing whatever put them in the emergency room so that they can go into a recovery mode and, hopefully, restore their lives to a normal status.

We all know what the problems are today with our small businesses – consumer confidence is shaken, purchases are down, accounts receivable are tougher to collect, everything seems more expensive, the banks will not lend us the money to meet our growing working capital needs, and, because this recession is almost two (2) years old, it all seems like it will never come to an end.  These all seem like very good reasons not to be setting aside time for planning you exit.  But that is a faulty assumption which can lead to disastrous results.

Ironically, this recessionary economy is one of the best times to be planning your exit because it is when you are focused on rebuilding your business

Here’s the thing about long-term planning . . . most of us don’t do it.  The fact of the matter is that the American psyche is built around positive thinking and immediate action.  Coupled with this issue is the psyche of the average business owner.  The prevailing attitude of the average business owner is one of ‘invincibility’.  And why not?  After all, it is the small business owner who has defied the odds of success, defied this economy and remained positive despite all of the troubles of the last few years.

Most owners who believe strongly in a positive future and continued prosperity in their businesses do not take the time to consider long-term planning – after all, the future seems so distant and largely inapplicable to the issues facing them today.  And because the economy is used as an excuse for their lack of planning, most owners leave their entire wealth and financial well being exposed to loss.

Let’s take a look at the 10-year cycle of business transfers to see why, despite the terrible economy, today is the optimal time to begin planning your exit. 

The cycle of business transfers follows a rather predictable trend.  And, right on schedule, the economy tipped downward in 2008 and continued this slide in 2009.  The difference in this cycle was the severity of the downturn – this was not predictable.  Few, if any, people recognized the amount that the major pools of wealth in this country were over-exposed to risk and were set for the dramatic correction that occurred.

Despite what has happened over the past few years, we need a context within which we can deal with this problem.  When we project out over the next three (3) to five (5) years, we see that a ‘window’ for a business exit will open again.  The question is, ‘will you be prepared to take advantage of this exit window or will you still be holding onto your business, without an exit plan, into the next recession?’.

This recent economic storm has broken the ‘status quo’ psyche for most owners.  For the most part, owners now operate under a new thought process, one which says, ‘look, I’ve been through a number of these recessions before, but this one really hurt.  I’ll survive it, but I don’t want to go through another one’.  It is the inertia of the ‘good enough’ mentality that has been broken.  And, the proper way to address this new reality of today’s economy is to begin doing some advanced planning against future contingencies.  Beginning the process of developing an exit plan is a great first step in taking inventory of what has occurred and setting a plan to be ready for an exit prior to the next downturn.

So, one may ask, ‘why start today when the next downturn is years off?’.

The answer is that it can take many months to develop an exit plan and many more years to execute that plan.  For example, it can take nine (9) to eighteen (18) months – or more – to sell a business.  This, of course, assumes that the business is ready to be sold and that an outside buyer is willing to purchase it.  Further, in the absence of any succession planning, a time period for grooming the next level of management is approximately five (5) years – again, if all goes well. 

The problem here is that the owner who uses this economy as an excuse not to plan their exit will miss the opportunities that are available today.  Not the least of which is the long stretch of time that it takes to properly prepare for and execute an exit.

In conclusion, most owners have always realized that, despite their best efforts, they are vulnerable to economic swings.  This recession, however, carries with it the additional reminder for baby boomer owners that there may be only one (1) more exit window before they are 70 years of age, or older. 

Since the majority of the average owner’s total wealth is tied to their business, it is more important now than ever to plan for your exit while still in the midst of this recession.

Don’t use this recession as an excuse for not planning.  See through the difficulties of today and realize that this tough economy is the ideal time to begin planning your future exit. 

In our current economy, the lack of cash flow has become all too common with small business owners.  In normal times when cash is plentiful and liquidity is good there is less concern with the weekly cash requirements for paying vendors, payroll and creditors.  However as the downturn in the economy impacts more and more businesses the need to manage cash flow and find creative solutions to keep business operating as expected.

Here are some tips I have learned in the recent past from my clients and other small business owners to maximize cash flow in difficult times. 

1.       Do not pay your suppliers until the due dates and if necessary go past the due date with the vendor’s concurrence.

2.      Accelerate all accounts receivable collections through timely customer follow up on past due receivables. Consider a discount for cash payments made prior to the due date.

3.      Renegotiate lease terms on rent and equipment when you are in the last two to three years of the contract.  Lessors would rather keep you in a contract longer at a lower rate than lose you as a client.

4.      Utilize outside consultants who work on a contingency basis to lower costs for expenses such as telecom, property and casualty insurance, etc.  These arrangements allow for lower expenses and the savings is usually split with the consultant.

5.      Reduce inventory levels and manage workflow production with a minimum of on hand product for manufacturing.

6.      Research deposits paid more than a year ago to utility companies to determine if the deposit is no longer required.

7.      Defer principal and interest on outstanding loans with banks and other creditors.

Additional assistance and guidance in the area of cash flow management can be provided by your finance and accounting professional.

Today's world moves at warp speed.  With all the information and technology at our disposal, weeding through what's important and what's not takes a lot of time.  Further, with this explosion of information, many functions and tasks in business have become increasingly complex.  Most successful business owners have motivation, inspiration, and a strong work ethic.  They became very good at making things or delivering services to their customers better than the competition.  However, many business owners become trapped as their firms grow because they can no longer concentrate on building their business because they get caught up in administrative tasks which sap their time.  This time drain is a huge problem for CEO's and is compounded by increased complexity in the administration of many businesses.  We wouldn't try to take out our daughter's appendix just because we were smart, hard working and industrious!  We'd call an expert! 

Although finance and administrative tasks may not require a Phd, they do require specialized knowledge. With increasing government regulation, expanding bodies of knowledge, and more competitive pressures, CEO's cannot afford to dabble in many administrative areas.  It is not only unproductive but can be dangerous.  In a phrase, we don't know what we don't know!  In many businesses I have seen, many believe everything is well run and they don't know they have problems or are missing  potentially huge opportunities until something happens accidentally or someone knowledgeable examines the sutuation.
  I was working for a $100 million company when I saw they had a mix of C Corporations and S Corporations. Due to their tax situation, they were paying taxes on profitable C Corporation income but could not take advantage of offseting losses in some of the S Corporations.  When I asked about this, I was told this had been looked at it for 20 years and they couldn't fix it!  A short phone call and $10,000 in legal fees later, we rectified the situation, saving the business owner an estimated $9 million in taxes!  The point is don't try to do everything by yourself.  You may get into trouble or miss opportunities- if not both.  We have no way to know what we're missing if we lack knowledge or expertise.

We don't know what we don't know!   

The following link takes you to a very interesting article by Sarah Needleman of the Wall Street Journal.  It talks about the advantages offered to start-up organizations through participation in incubator programs.

Entrepreneurs Find New Way to Grow