SEBlackman Advisors

Finance and Story Telling

3/15/2015

One of the most important things any finance professional can do is tell a story. That might appear to be a strange statement for a profession that prides itself on the use of facts and data. We love spreadsheets and get bummed out if numbers do not "tie."

So, what is meant by storytelling and is it important? Well, the best way to explain this with a story we have all lived. You are in a meeting listening to a presentation and you just KNOW the numbers are not right and the assumptions make you call for a drug test. You were walked through the manufacturing plant and saw the broken machine holding up production and the inventory building up. At lunch, you learned that the part needed to repair the machine takes days to be delivered. But, the numbers being presented show no change in on-time delivery metrics and the presenter commits to an increase in inventory turns. Clearly, this presenter did not work with finance to make sure they were telling the same story as the numbers. The story is saying manufacturing is having issues that will prevent product from being shipped which will upset customers and build inventory. But, the numbers being presented have results getting better. The numbers and story do not match.

A great way for finance to partner with all the other groups is to help them tell their story. This includes; ensuring the numbers tell the same story as the words, the actions planned will achieve the numbers committed to and most important points are highlighted and the "noise" eliminated. You partner will appreciate you input and you will gain a deeper understanding of the business. If the above presenter had met with you the presentation would have held together with the numbers telling the same story as the story. Then, you could have worked out the actions needed to get back on schedule and used the numbers to make sure the plan will work and identify the key levers and risks. Lastly, you would have kept the presentation focussed by eliminating the myraid details that have little effect on the results.

So, go forward and tell stories!!

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Financial Planning, Forecasting and Reporting Summit - Boston

10/17/2014

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Peter Ginouves is giving a nice presentation on using Big Data to drive business reporting. This is something we will all need to deal with either sooner or later; probably sooner.

Big data is a loosely defined term about data that is so large it is awkward to deal with. The amount of data in our lives is growing exponentially in out professional and personal lives. As an example, with all the pictures and videos at home we all may need to backup a terabyte of data. A few years ago many of us had not heard of a terabyte. Next is a Petabyte which is 1 billion gigabytes.

The overall message is that there are tools out there to help us manage data and Excel is not the answer. It may be worth spending some time thinking about how to use data to gain competetive advantage in the not so far away future. If we don't our competitors will.

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What is a SWOT?

10/4/2014

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SWOT stands for Strengths, Weaknesses, Opportunities and Threats. So, what is it used for and it is worth the time? A SWOT analysis is a great tool to set the strategic direction of the organization. It is a tool to help an organization (company, division, department, etc.) reflect on the internal abilities and vulnerabilities and how they can be used in the external environment. To say it more simply, for an organization to look honestly at itself and decide what to do to take advantage of the opportunities available. Sounds easy, but the brutal honesty needed can prove difficult. If done right, it can be one of the best planning tools available and it does not require spending oodles of cash on consultants.

The desired outcome of performing the analysis is to determine the goals and actions of the next year or more. But, this needs to wait to the end of the process and be wary of jumping ahead, it is easy to do.

The first step is creating the correct environment for a discussion. I have found that a “panel of peers” works well for getting constructive feedback. The way this works is a group of peers, maybe department or division managers, meet and present their SWOT analysis to the others who serve as the feedback panel. They are familiar with the business and understand many of the issues that will be presented. They will also present their SWOT to the panel. Since each group will present to and serve on the panel, people tend to be fair and constructive.

Before presenting the SWOT to the panel, each group will need to prepare a SWOT for their group. The first part of the SWOT is the hardest! The leader(s) of the group need to take a brutally honest look at the internal Strengths and Weaknesses. This includes the people, skills, technology, capability, capacity or anything else that may affect the group’s performance. Remember this is an internal look; Often people tend to start to look at external influences. Do not look for solutions – just identify the good, bad and the ugly.

After looking internally, each group will need to analyze the external environment it lives. Opportunities may be things like new technology, acquisition targets, better suppliers, new markets or anything that might be taken advantage of. Threats need to be identified as well. Examples of threats are new competitors, increased regulations, reduced supply base, or increase in raw materials are a few examples.

As you might have guessed by now, this is not a ten minute exercise.

Once the Strengths, Weaknesses, Opportunities and Threats are identified, the actions can be identified to take advantage of the strengths to capitalize on the opportunities as well as improve weak points and defend against threats. This is the basis to set goals for the year.

If you are lucky, the discussion that ensue during presentation with the panel will help gain a deeper understanding of your organization both inside and out.

There are plenty of templates available of the web. A quick search on the web will give a good selection to choose. There is one example you are free to download if you like.

Good luck!

swot_example_template.pptx
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How to prepare for Outsourcing or Offshoring

9/14/2014

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In the last post the difference between offshoring and outsourcing were explained and it was promised we would review how to prepare to do either. Well, I always try to keep my promises.

Have you ever heard of the Three M’s of learning a new process? They are Mimic, Master and Modify. First you mimic and do exactly what was done before to get the report done. The first time you prepare a report there are often steps that are needed and it is not clear why they are required. So, just follow the steps. After you produce the reports a few times the process will be mastered and you will understand why things are needed. After, and only after, you have mastered the process and understand all its complexities can you modify the process with confidence that all the consequences are understood. Too often people jump to Modify before Mastering. We have all made this mistake and felt the pain.

Using the Three M’s as a guideline, the initial preparation to execute either strategy can be summarized with two words: “Standardization” and “Documentation.” If you have disparate ways of completing the same process each time as well as differently by each person, moving the work to a new party will be impossible. Think of learning a process being taught to you that is different each time; anyone would be sure to make mistakes.

So, detailed step by step instructions are needed. The instructions cannot be too detailed, have too many pictures and screen shots or be too many pages. Screen shots are important because it shows the users that the screen should look like when they take an action and where data should be input on the screen. A picture is required for each input (or one picture can show multiple inputs) with some arrows and text boxes with instructions. Leave nothing to chance or interpretation. This provides great direction for the user and gives them a sense of comfort they are doing it correctly. These pictures do make instructions longer and adds pages to the printout. This length is worth any negatives anyone may point out.

Once the documentation is completed it MUST be tested. There is only one way to do this; Have a person not familiar with the process use the instructions to prepare the report. The only rule of this test is “If they have any questions, the instructions have to be updated.” The testing is 100% from the perspective of the new user. If they say an instruction is unclear, incomplete or misleading, then it is unclear, incomplete or misleading. This can be very frustrating to the person preparing the instructions. But, remember you wrote the instructions after mastering the process. This means you often take knowing things for granted that the new user will not know. This is why a person not familiar with the process is needed to properly test the instructions.

There are certain things all instructions should include. They are detailed below:

·         Date the report/process is due

·         Systems used – This will allow the user to ensure they have access to the needed systems.

·         Example of a prior completed report

·         The location of all source data

·         The location of where the completed report is to be saved or a distribution list of who receives the report

·         Name and contact information of people that can help (this can be a life saver!)

What is covered here is common to both offshoring and outsourcing. Having a standard documented processes will make your transition successful. Good luck.

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Outsourcing versus Offshoring

9/2/2014

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Why do either? Surprise, surprise it comes down to saving money. The decision to outsource almost always is done to lower cost and often has the benefit improving quality. In finance or accounting the work is usually moved someplace with far lower costs to perform the same work. The lower costs is most often obtained by salary arbitrage. Or said more directly, having work done in a location where employees are paid far less than in the Unites States or other developed economies. Wages in India, parts of China and the Philippines, as just three examples, can be as much as ten percent of the cost of a US worker. This means that if they need to hire two employees to replace one employee in the US there is a net savings of 80% of the US wages. That is a huge incentive to move work to a low cost location.

There are two ways to move work to a low cost location, outsourcing and offshoring, and I have been involved in both.

· Offshoring is hiring your own employees in a low cost location. The primary benefit of this strategy is the control you maintain of the work, processes and systems. It also allows the new employees to have a true vested interest in the work, how it is performed and to improve it going forward. The primary con to this approach is the investment and commitment to building the capability and staff in the new location. Training can be very intense and seems to always take a bit longer than the plan originally put on paper. There are also local laws and regulations to contend with. I have been involved in offshoring work to the Philippines and India and in both cases did so without laying off anyone in the US.

· Outsourcing is hiring third party to do the work. This has been very popular and successful in the IT world due to the distinct documented processes that are needed. It also applies very well in the accounting and finance world for higher volume process oriented tasks. These include accounts payable, billing and accounts payable as examples. The primary benefit of using a third party is ability to leverage their expertise in performing the processes you want performed. Their expertise comes from doing the same or similar processes for other companies, possibly hundreds of companies. Often the third party has systems and processes already in place that your company can just adopt. This can make the transition quicker and more cost effective. But, what is the ‘cost’ to your company; it is loss of control and lack of customization. Your company will get what they already do, not what you have historically done. This is not always a bad thing, but be aware of the difference, especially if you have a very specific need. On the other hand, is your specific item a “need” or a “want”? Often, the need exist only because that is the way we have always done it.

Next time I will describe how to prepare to outsource or offshore work successfully.

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The FinancialPlanning, Forecasting and Reporting Summit - Boston, MA

8/21/2014

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I am pleased to let everyone know that I have been asked to speak at the Financial Planning, Forecasting and Reporting Summit this October 16-17 in Boston, MA. Please come and introduce yourself at the event. I look forward to seeing everyone there. For more information, go to www.finance-summits.com.

Scott

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What is Return On Investment (ROI)?

8/13/2014

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This term is used often and often overused with no supporting analysis. The term is thrown around to justify spending for new positions, projects, systems and other projects. People use the term to justify increased in spending to cover regulatory and compliance items (as examples) with no increase in future cash flow. They are still required and need to be done, but they are not “investments” with a financial return. People also often introduce accounting methods to justify the ROI. Since the contract will be amortized or depreciated over three years they assume the investment is spread over three year. While that may be the correct accounting, the cash was spent up front and the cash flow must be used to calculate the ROI.

Now, let's take a look at what ROI is and how it is calculated. Then, it will be clearer how the term is misused.

To be redundant, the key to determining ROI is all about cash flow. When analyzing an investment there are three key consideration: 1) how much and when cash will be spent (the investment) and 2) how much cash and when it will be received and 3) how much risk does the investment carry. The timing of the cash flows, bot in and out, are just as important as the amount of cash. The best way to explain why is to use a simple example.

You put $100,000 in a bank account and in a year you get $103,320. The bank is 100% insured and therefore has zero risk. We have all three requirements to analyze the investment. 1) The cash will spent on day one 2) the cash will be received on day 365 and 3) there is zero risk.

Another example is buying a new piece of machinery that cost $100,000. It will allow work that was previously done by an outside vendor to be done inhouse without adding any addition employees. There is high demand for the product produced by the machine and it will cost $2,000 per month to operate the machine. But, they will stop paying $11,382 per month to the outside vendor.

Which is a better investment? How can we compare a bank investment versus a capital investment? Is this apples and oranges? At first glance the situations look so different. Actually, they are analyzed the same way.

At the end of the year:
· Both investments return $3,200 in cash above the original investment
· Both investments also have the original money invested (we will ignore depreciation to keep it simple)

If both investments are worth the same at the end they must have the same ROI, right? Well no, the ROI is different. The bank investment is 2.9% versus 5.2% for the capital investment. This is due to when the cash is received. Since the production costs are avoided starting in the first month the cash flow becomes positive before the bank returns our principle and interest.

Deciding between the two investments is not a decision if the additional return of 2.3% (5.2% less 2.9%) is worth the additional risk. This is not a mathematical question, but a question of management judgment. How confident are we about the demand for the machine? How confident of our ability to operate the machine? These are just two of the questions that address the risk of the capital investment. The bank investment is 100% insured and therefore carries no risk.

Notice the accounting of the investments is not mentioned as a factor on the ROI. Cash Flow is the determining factor of ROI.

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How much does my product cost?

7/21/2014

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This is one of the most important questions a company needs to understand. It is not the only question, but is certainly one of the most important. Understanding the cost helps identify what products are making or losing money and what can be done to improve margins. Let us take a look at how to determine product cost.

In my first job, a senior manager explained product cost in a simple way. He held a pencil in his hand and said there are three things needed to make this pencil. The first is materials; the wood, lead, eraser and metal to hold the eraser. The second is labor; the workers to run the machines that assemble the pencil. And the third is Overhead; the building, the machines and everything else needed to produce the pencil.

This is still the example I use today to explain product cost to people. The concept is so easy. Execution is so complex.

Let's look at each of these items and how they make up the product cost.

Material is the easiest cost to calculate. The Bill Of Materials (BOM) lists every part in the product. The amount and cost of the wood, lead, eraser and metal are known. Add up the costs of all the materials and you know the material cost.
Labor is the next easiest cost to calculate. The procedure to make the product is studied to determine how much time is required to make one unit. Then multiply the time to make the part by the labor cost of the people making it. Sounds straight forward, and sometimes it is, but usually not.

Does each worker perform the process in exactly the same amount of time? Of course not.
How is the cost of the person setting up the machine before any parts are produced charged to the part cost? It takes the same amount of time to set the machine to run one part as it does to set up for 5000 parts. To make it more complex, customer demand requires different amounts to be run each time.

Fortunately, the answers to these questions usually shows a fairly consistent pattern with not too much deviation. Most workers take approximately the same amount of time to perform the operations. Normally, the number of parts produced together is close to the same amount each time. The consistent nature of the answers allows for the averages to be used and also be meaningful.

The most difficult cost to allocate is Overhead. What costs are included? Which are excluded and why? How are the costs charged to the product? To be honest, there is some science and some art to answering these questions. The answer is based on the individual situation and makes it imperative to understand the methodology at your company. But there are some basics that will assist you.

Items normally NOT INCLUDED in Overhead:

Marketing and Advertising
Research and Development
General and Administrative costs (e.g. Finance, HR, General Management)
Inventory carrying costs
Shipping costs

Items normally INCLUDED in Overhead:

Building costs (e.g. rent or depreciation)
Machine rent or depreciation
Consumables (oils, cutting tools, papers, etc.…) used in production
Machine maintenance

Once the overhead costs that are included are established, how is the overhead allocated (charged) to each product? It is a simple math equation. The cost of all the expenses is divided by the total amount of labor time.

·         Total Overhead expense / Total Direct Labor hours = Overhead per hour
·         Production Time x Overhead per hour = Product Overhead costs

Below is an example to illustrate.

The total overhead expenses for the month at the Widget Plant were $1 million and the total number of direct labor hours for the month were 10,000. It takes two and a half hours to produce the product.

·         $1,000,000 / 10,000 = $100 per hour
·         2.5 hours x $100 per hour = $250
·         Each part will be allocated $250 for overhead

To carry the example to completion, let’s include the material and overhead.

            Material Cost

·         The widget material purchased for this product cost $1,750,000
·         The plant produced 17,500 widgets
·         Cost of material used / units produced = material cost
·         $175,000,000 / 17,500 units = $100 per unit

Labor Cost

·         Each widget required 2.5 hours of labor
·         The average worker is paid $55 per hour (including wages and benefits)
·         Direct labor hours x labor rate = labor cost
·         2.5 hours x $55 = $137.50 per unit

Total Widget Product Cost

·         $100.00                Material Cost
·         $137.50                Labor Costs
·         $250.00                Overhead
·         $487.50                Widget unit cost

Hopefully, this provides a basic understanding of how to understand the cost of the product you are selling. In a future blog we will cover how to understand the costs of a service organization. (Hint: it is not too different).

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How to budget

7/4/2014

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The funny things is I hate when companies budget! Budgeting is a math exercise that puts the cart in front of the horse. If done alone, all it does is calculate how much a company can spend at an assumed level of revenue to provide an acceptable profit level. Interesting, but not very helpful when running a company.
On the other hand I love when companies put together a great Plan! A good plan has a few parts that answer key questions.

• A SWOT analysis is very helpful. It forces a critical look at the companies Strengths, Weaknesses, Opportunities and Threats. This perspective will be a guide on establishing the companies goals in the both the short and long term.
• What is the competition expected to do and how will we either capitalize or defend against it? This is another perspective that will provide guidance in setting the specific goals to be achieved.
• What are the specific goals for the next year, three years or longer? Answering this question gives direction and focus to the entire organization and let's each employee know how they fit contribute to the organization’s success.
• What are the specific actions to be performed to achieve the goals and when will they performed? These are operational actions that can be measured. These actions include key hires, capital investments, other material expenditures, raising capital and last, but not least, when key orders will be booked.
• A budget!! Yes, a complete plan must have a budget as part of it. The budget is a financial expression of the planned actions. It is needed to tell management if the plans will achieve the expected financial goals.

The budget provides a very key role in the planning process. It forces management to make resource allocation decisions. These are often extremely difficult because it requires choosing not do a good thing in order to afford something else. To make the decision more difficult, the allocation decision most likely requires one manager or department to make a sacrifice so investment can be made in another department. Maybe the company chooses to hire a new sales person at the expense of investing in new capital. Does the company need to close an underperforming division instead if investing more in it so the company can grow a different part of the business? Buy more machines or outsource the work? These are all difficult planning decisions that the budget highlights.

Including the budget as part of the total operating plan of action allows variances in the financial performance to be tied back to the specific planned actions. As an example, revenue coming in lower than budget should not be a surprise if key orders were not booked on time or at all. The planned action of obtaining a sales order did not occur is the cause for the budgeted revenue to be missed. The same analysis is true for spending. A wonderful new hire for a senior position joins the company in April but was planned (budgeted) to occur in September. Nobody should be surprised when salaries are higher than planned and actions are required to curtail other spending to keep total expenses in line with the budget.

As you can see, budgets are a crucial component of the planning process. In conjunction with the operational action plans, the budget allows for optimal resource planning decisions to be made. In addition, during the year, variances to budget will highlight changes in actions or timing from the original operating plan and allow management to adjust accordingly.

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Financial Flash report

6/22/2014

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This post will discuss what is often titled a Flash Report. My last post was about Operational Dashboards versus Financial Dashboards. It may have sounded as if I don not like financial data due to a preference for an operational dashboard. Nothing could be farther from the truth; I love financial data and converting it into information to base decisions.

A flash report is a concise high level view of the financial results of the month that is produced soon after the end of the month, usually before the results are final. Since these are not the final results, but a solid look at how what financial results will be, information needs to be at a summary level and quick to produce as well as in a format that is quickly consumed by the managers. Graphs and short clear variance analysis are integral to a successful flash report. I suggest that if a flash report is more than two pages it is too long. Also, the format of the report should remain consistent each month. This will allow the manager to know where to look on the report for the information they want. The term "Flash" indicates speed and this report is intended to be consumed quickly.

Each company, or division, will have differnt things on their flash report because different things drive their business. But, similar to dashboards, there will be key themes across all flash reports regarding what will be included. What most likely will be different from the dashboard is the limited, or lack of, operational data. This is a financial report.

A very high level Income Statement with variances to budget or forecast should be the lead schedule. Take heed of the words "high level" as it is important to show only the most important line items. Presenting a full financial statement will be too much information for the manager to quickly consume and take too much time to prepare. Revenue and gross margin may need to be presented by product line or by region as appropriate. Only the major expense items are broken out and the remaining expenses are included as "all other." Since the report is prepared before the books are closed for the month, taxes are normally excluded from a flash report.

Other information often included is Bookings and Backlog, head count, cash balance and maybe accounts receivable. Not all companies include all these items because the information is not overly important to the business, the information is not available quickly enough or takes too much effort to put together.

While actual results for the month are nice to know, it is the variances that indicate what is happening in the business. This is true for all financial reporting. Commentary explaining the variances will show the manager what she needs to know to understand what happened in the month and to make changes to improve future performance. Flash Report commentary is often in bullet format, again for quick consumption

When putting a Flash Report together, keep the report short, focused on key items and easy to produce. By doing this and providing solid variance explanations, the manager will have good quick sense of what happened and be able to research and make adjustments.

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Finance and Story Telling

Financial Planning, Forecasting and Reporting Summit - Boston

What is a SWOT?

How to prepare for Outsourcing or Offshoring

Outsourcing versus Offshoring

The FinancialPlanning, Forecasting and Reporting Summit - Boston, MA

What is Return On Investment (ROI)?

How much does my product cost?

How to budget

Financial Flash report

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