The man who will use his skill and constructive imagination to see how much he can give for a dollar, instead of how little he can give for a dollar, is bound to succeed.

Henry Ford

Remember two very crucial points – before you can start to control your costs you need to know what those costs are, and the relationships between those costs and the value that they create in your product or service.

Costs fall into two categories:

1. Fixed Costs - these costs do not vary with level production activity or sales volume. Examples would be rent of premises and insurance.
   
2. Variable Costs - these costs do vary with the level of production activity or sales volume.  Examples would be materials and certain types of labour.

You can control your costs by:

1. Forecasting what your costs will be.
2. Monitoring – regularly compare your actual results with your forecast.
3. Review all costs to see where potential savings can be found.
4. Negotiate – look at variable costs in terms of  possible discounts due to increased or guaranteed volumes.
5. Shop around for better deals.

Whilst it is important to control your costs, you must ensure that your primary focus is to create outstanding value in the product or services you create. A pure ‘cost mentality’ misses the point that you are creating something of value that will satisfy a want or a need for you potential customer – and for which they are willing to pay you money. But only if they believe that they are receiving value.

Are you controlling your costs and creating value?

One client I was working with manufactured a range of products. His focus was on generating revenue, until we used the underlying financial data to calculate the margin on each product. The results made interesting and surprising reading – but that is usually what happens when you find out the facts and stop making assumptions.

One range of products cost on average £45 to produce, when labour, material and overhead costs were taken into account. The profit generated was on average less than £4. Another product cost £4 to produce and generated a profit of  £2. The assumption had been that the higher income generating product was also generating the higher profits.

The margin calculation we were looking at was the profit as a percentage of the sales value. The higher valued product had a margin of 9%, and the lower valued product  had a margin of 50%. As long as there was a market for generating more sales of the lower valued product, then production should be shifted to it. There would be three particular outcomes:

1. Total revenue would reduce
2. Total profit would increase
3. Cashflow would improve as the production costs necessary to produce the increased profits would be reduced

By focusing on spending a small amount of time ‘working on the business’ as opposed to ‘working in the business’ the owner in this example was able to create some significant changes in his business. The value of his time,

good management information, and understanding how to use them both pays significant dividends.

Perhaps there is some truth in the saying,  ‘There is non victory at bargain basement prices’ – but it also depends on your margins!

How are you using your time – and are you getting the right dividends from it?

Over the next five days I am going to give you 5 tips on your revenues, costs and cash flow.

I read the above quote recently and was taken by how a few words can convey such elegant  simplicity and complexity at the same time – depending on your understanding and knowledge.

Before I go any further, consider the following quote on profitability:

Jim Collins

A business generates turnover, by incurring costs, in order to make a profit – but the cash flow, the receipt and payment of monies happens at different times.

1. Money in the form of sales flows into the business
2. Money in the form of costs flows out of the business
3. The difference between money in and money out is your profit
   
4. The timing between money in and money out is your cash flow
   

Turnover tells you nothing about how a business is performing – it is a measure of quantity rather than quality.  One business can have a reported turnover of  £1 billion and another a turnover of £20 million. Which would you rather own? You cannot tell until you find out that the first business made a loss of £50 million, whilst the other a profit of £5 million.

Profit is a measure of how well the business and it’s resources have been managed. Profit allows the owner to generate wealth from the business and create value in the business.

Cash flow is where things now start to get more complicated. Whilst you may know the exact margin you earn on every product or service you offer, that margin can be affected by how you manage your working capital – your debtors, creditors, stock, work in progress etc. Sometimes people don’t pay you on time, sometimes they never pay you, you have to pay for goods before you can make them and sell them, perhaps staff are paid before the sale takes place, stock can become obsolete – the list goes on.Your profit is not necessarily set in stone!

You need to have a system that allows you to monitor all these variables. Too many profitable businesses have gone under because they did not understand the importance of controlling their cash flow. Cash is the lubricant that keeps the system moving.

Here are some ways to control your cash flow:

1. Keep your accounting records up to date
2. Reconcile your bank account monthly – include all oustanding receipts and payments that are not on your bank statement
3. Review an aged debtor report at least monthly
4. Have a system in place to chase monies due
5. Keep a simple spreadsheet to record what needs to be paid and by when, along with an estimate of income receivable. If you can incorporate a bank balance even better.
6. Regularly review any stock or work in progress.

At the end of the day, profit is a subjective concept that can be a moving target, depending on how it is measured. Cash on the other hand is a tangible asset whose measurement is absolute – or is it?

Are you vain, sane, or do you need a reality check?

“Character is the ability to carry out a good resolution long after the excitement of the moment has passed.”

Cavett Robert

The Profit and Loss Account

People just really don’t seem to like numbers – unless it is a healthy bank balance! A big part of the problem is a fear of something that appears to be really complex. Numbers can be very complex, but if you learn the basics and use certain key figures you will diminish that fear and start to appreciate the enormous benefits that are possible for you and your business.

Money flows in to your business, money flows out of your business – and it does this over time. Your job is to ensure that you can identify and control the transactions which create that flow of money over time.

You need to be able to match your income with the associated costs of generating that income – and produce a surplus or profit. You also have to understand that there are fixed costs such as rent, rates, insurance etc, that are not directly related to the income generated, and variable costs such as product materials, some labour, that are directly related to the income generated, and change in proportion to the activity of the business.

Your profit and loss account records your business activities for a particular period of time. Traditionally that period is for twelve months, usually to satisfy various external regulatory purposes. Depending on the sophistication of your accounting system and the complexity of your business, you can shorten that period by as much as you like. Modern accounting packages can produce daily profit and loss accounts – as long as you have input the data to the system.

The key here is how regularly and how much detail you record in your accounting system. The more data you have, the more you can learn how your business is really doing – and then you can make better decisions about how you control your business.

Next time we will look at the Balance Sheet – I can just hear you saying – ‘Can’t wait’!

My i-Challenge: Day 24 = 25 Articles

“Do the thing you fear, and the death of fear is certain.”

Ralph Waldo Emerson Poet

We are running our marketing success programme at the moment, and a crucial idea that we we teach is my philosophy of ‘Do It Today’.

I decided that I would start a collection of How 2 Guides on various topics, each of which would combine the knowledge of the subject with a system for creating action to apply that knowledge. At the heart of the system is the Do It Today philosophy. Each guide will comprise a series of articles.

Before I launched into a topic, I knew that it would be critical to start with a plan. Reason being – “If you fail to plan, then you plan to fail”. So here is my 5 point plan for producing each guide:

1. Choose a topic
2. Establish Particular Areas of Interest
3. List Resources for Personal Development
4. Write the Article
5. Produce Action Exercises

The first topic we are going to look at is ‘The Numbers’. Next we follow the 5 Step Plan;

Step 1 – Chose a Topic

Beyond The Numbers – an introduction to some of the information you should have and understand.

Step 2 – Establish Particular Areas of Interest

1. Profit and Loss Account
2. Balance Sheet
3. Cash Flow Statement
4. Debtors and Creditors
5. Bank Reconciliation

Step 3 – List Resources for Personal Development

1. Books
2. Internet
3. Seminars/Workshops
4. Accountant
5. Other Professionals

To see the next two steps, you are going to have to wait for the next blog entry.

Have a great week.

My i-Challenge: Day 10 = 12 Articles