GROWTH AND PROFITABILITYOptimizing the Finance Function for Small and Emerging Businesses phần 2 pot

Brick-and-Mortar OperationsTo better address the issues of doing business in foreign markets, it is best to amine the situation from a bricks-and-mortar perspective—that is, how would th

■ Have all foreseeable risks been identified?

■ Are owners in touch with industry peers regarding changing rules and ulations?

reg-■ Does the company have quick access to legal counsel that knows enoughabout the industry to guide the enterprise through changing federal and lo-cal regulations?

From a financial standpoint, strategies should be in place that take into accountunexpected regulatory barriers Setting up adequate reserves and having the capa-bility to quickly add the impact of new regulatory guidelines into budgets and fore-casts may be the extent of a sound preventive finance strategy If the organization

is publicly traded, however, a process may have to be in place to communicatechanges like these to the analyst community and shareholders in general, to man-age expectations and optimize stock price In this case the finance strategy may in-volve retaining an investor relations professional or firm to spin unexpected newsand requirements to the public

DOING BUSINESS IN FOREIGN COUNTRIES

The new economy (as dictated by the Internet boom) has created markets where

they previously did not exist while enhancing those that were once modest, at best.Companies in the United States are finding that penetrating markets in NorthAmerica may not be enough to remain competitive with rival industry players.Burgeoning economies in Latin America, Asia/Pacific, and Europe are driving achanging world of market and cultural demographics Before diving headlong into

a foreign market, it is prudent to weigh the risks of participating in cross-bordercommerce with an upside potential

The Internet

The chief driver of the new economy, undoubtedly, is the Internet By providingcheap, (relatively) low-maintenance access to the global community, companies ofall sizes and means can deliver products and services to once-inaccessible con-sumers What is the cost of this unbridled access? Is the company exposed to localtax liabilities if it sells to customers in certain countries? What local disclosurerules are the company subject to? Is the enterprise violating trade treaties or laws

by selling to the international community? Is the enterprise prepared to deal withlocal authorities in the case of trade or import levies? Could U.S or foreign au-thorities force the enterprise to shut down its website or stop offering products andservices? Any or a combination of these scenarios could have an impact on the fi-nancial health of the organization What is the best way to strategize around suchbumps in the road?

Brick-and-Mortar Operations

To better address the issues of doing business in foreign markets, it is best to amine the situation from a bricks-and-mortar perspective—that is, how would theenterprise function if it had a physical presence in a certain country? Having aphysical presence in a country avails the company to advantages it would not have

ex-if it had no physical presence Avoiding exorbitant tarex-iffs and duties not to mentionglacial import protocols are some of the major advantages of having a physicalpresence in a foreign country in which a company wishes to do business

With these advantages, however, come the responsibilities to comply with cal tax and reporting rules Regardless of the company’s status (as a subsidiary, dis-tributor, or manufacturing concern) in the foreign locale, foreign countries (withfew exceptions) consider the company’s mere presence grounds to assess it as a le-gitimate tax-paying entity This means allowing local authorities access to allbooks, records, and information systems for statutory review It also means com-plying with all tax laws Doing so could include definitions of revenue, expenses,assets and liabilities that differ from those of the United States Lack of compli-ance with even the mildest of provisions could mean fines, penalties, or a cessa-tion of business Additionally, accounting treatments prescribed by foreign bodies,whether by the countries themselves, by administrative bodies like the Interna-tional Accounting Standards Committee, or by a combination of both, must beunderstood and applied properly In some cases, local GAAP rules and tax rulesare one and the same; in other cases they may be different Examples of country-specific reporting rules are:

lo-■ Thin capitalization rules Many countries require that certain threshold

ra-tios of debt to equity be maintained For example, if Germany requires thatall companies doing business within its borders have no more than a 1.5 to

1 debt-to-equity ratio, any slippage below this ratio could deem a companybankrupt and require it to be liquidated Companies often must institutedrastic measures in circumstances like this, such as injecting cash into theenterprise or converting debt to equity The solution required to address such

a problem may be counter to the company’s overall strategy

■ Hyperinflationary accounting rules Certain countries with unstable

economies require the revaluation of balance sheet and/or profit and loss(P&L) balances on a periodic basis to mitigate the impact of a weak localcurrency Economies that are hyperinflationary have specific rules forrevaluing balances in an effort to keep year-to-year comparisons of data ac-curate This may include creating and maintaining specifically defined ac-

counts on the general ledger In Mexico, for example, this is called the B-10

calculation and is mandated for all companies that are traded on the public

exchange

Aside from reporting and tax rules, a company must take into account culturalnorms and the potential for political instability Other countries may deal with is-sues related to social costs (equivalent to Social Security in the United States), va-cation time, and employee hiring/firing very differently from what is done in theUnited States Social costs may be significantly higher in foreign countries, some-thing that must be factored into budgets and forecasts The norm for vacation time

in some countries may be a minimum of six weeks or more per employee Rulesrelated to constructive termination (where employees are deemed terminated due

to a change in work environment) play a huge factor in some countries, especially

if a restructuring effort is undertaken by the U.S parent company Generous tory severance also plays a factor in restructuring efforts These costs must be takeninto account in budgets and financial models, whether they are one-time charges

statu-or recurring expenses, especially when the viability of operations is considered.Infrastructure issues also play a role in doing business in foreign countries.The level of reliability of certain aspects of infrastructure vary wildly from coun-try to country The condition of roads, public structures, water supplies, phonelines, and electricity ranges from excellent to poor depending on the continent,country, or city It is not uncommon in some countries for phone lines and powergrids to go down for extended periods of time If a period-end closing of the booksrelies on the submission of data from a country with poor or unreliable phone lines,the closing may be held up or put in jeopardy, a particular concern for public com-panies with scheduled press release dates and filing deadlines

LITIGATION

Litigation can have a direct and/or indirect impact on the enterprise The impact oflitigation filters down to the bottom line in the form of fines, penalties, inability tosell a product, or mandated recalls In a more subtle way, litigation impacts the way

an entire industry approaches a market or an individual company’s brand image Aperfect example of both the overt and the subtle impact of litigation on the enterprise

is embodied in the Microsoft antitrust litigation, United States of America v

Micro-soft Corporation,5which extended from May 1998 to April 2000 (original trial) Theeconomic fallout from this action has already been borne by Microsoft shareholders.Microsoft’s market capitalization declined precipitously as the initial verdict wasread and penalties proposed The real and most far-reaching impact, however, will

be felt by smaller, existing software makers and consumers By mandating a change

to the way Microsoft produces and markets its operating systems, the U.S JusticeDepartment can significantly alter the landscape of the computer software industry.The wide-open, hypercompetitive software industry sought by plaintiffs in the casemay come to pass, which could change the financial fortunes for many

Litigation also can have a direct impact on companies that do not follow porting and disclosure rules A good example is the case of Caterpillar Inc., a globalmanufacturer of heavy equipment The company was subject to class action suitsrelated to financial statements it issued in 1990 The lawsuits alleged, among otherthings, violations of certain provisions of the federal securities laws The com-plaints alleged that company executives fraudulently issued public statements andreports during the period from January 19, 1990, to June 26, 1990, which were mis-leading in that they failed to disclose material adverse information relating tothe company’s Brazilian operations, its factory modernization program, and its re-organization plan In this case the lack of disclosure of potential foreign currencyrisk in its Brazilian operations led to shareholder lawsuits filed when the economy

re-of Brazil hiccupped, adversely affecting the company’s financial statements Theprecipitous drop in the price of the stock led to the lawsuits, which forced the res-ignation of key executives in the organization and led to other debilitating sanc-tions The circumstances surrounding this case moved the SEC to issue specificguidance on disclosures in certain public filings.6Acute punitive damages for ex-ecutives are becoming more common as the SEC continues to get tough with thosewho manipulate accounting and disclosure guidelines for their own benefit Thismeans jail time Phar-Mor, Bennet Funding Group, Lumivision, Bernard Food In-dustries, and California Micro Devices are examples of companies whose execu-tives served time for accounting/disclosure indiscretions.7

The key point is recognizing the need to evaluate risk in the organization Forthe small and emerging business owner, this may be a challenge The need to rec-ognize the presence of risk in doing business and quantify it is the challenge of thefinance organization At the very least, reserves and insurance to cover potentiallitigation should be in place However, as a growing business enterprise becomesmore diverse in its offerings and the business environment becomes more com-plex, the finance organization must be suited to identifying and quantifying the riskassociated with the direct or indirect impact of litigation

TECHNOLOGY NEEDS OF VENDORS AND CUSTOMERS

The business owner must be in tune with suppliers and customers from an structure perspective as well The Internet has enabled business-to-business order-ing, which greatly enhances the speed and accuracy with which orders formerchandise and services are communicated This paperless model for handlingcustomers and vendors, however, may require attention to system and applicationinterfaces Collaboration of the two is becoming more and more necessary forbusinesses with common supply interests or those that participate in similar verti-cal markets Having adequate platforms and interfaces is a must to enable thesetremendous cost-saving models

infra-Participating in these paperless models often opens up a whole new world ofstewardship when it comes to systems maintenance The intricate interdepen-dencies of different companies and their interfaces or applications requires an all-or-nothing participation commitment If one component/participant goes down,how does this affect the rest of the consortium? How vulnerable to viruses or dam-age is the consortium? Can a single participant crash the whole system? Issues likethese must be addressed up front before such an endeavor is sought as a cost-savingssolution Business owners must be willing to commit time and dollars to such solu-tions in an amount equal to that of other participants.

EMPLOYEE NEEDS

Some of the most challenging decisions made by small and emerging companyowners relate to employee-related benefits Health insurance, life insurance, and401k plans may be a part of the business owner’s plan to retain top talent and fos-ter loyalty These plans have a cost, however, and the business owner has a re-sponsibility to ensure they are appropriately funded and suit employees Do theseplans require a one-time outlay of cash to set up? How heavy will the funding ob-ligations be over time? Will the funding obligations change over time? Is the com-pany properly reserved to fund a huge liability to the program if needed? Employeebenefit plans should be a part of any small and emerging business, but the businessowner must be aware of the financial obligations of the particular programs thathave been or will be put in place The headache of switching programs for finan-cial reasons may create confusion and bad will rather than peace of mind amongemployees

STRIKES

Depending on the industry, labor strikes may impact the company either directly

or indirectly A company whose operations rely on organized labor (or other panies with organized labor) may be vulnerable in the event of a work stoppage.Work stoppages due to labor strikes could result in unfilled orders, slow returns,and supply chain slowdowns For many small and emerging businesses, the impact

com-of strikes may be more indirect Merchandisers that rely on the Internet to reachcustomers may depend exclusively on the post office, UPS, or FedEx to delivermerchandise to customers What type of provisions have been made to guardagainst the impact of strikes at courier companies? If a strike cuts off delivery tocustomers, how long could the company hold out? What is the run rate on cash?The company should have as a part of its strategy a finance model that addressessuch a scenario

NATURAL DISASTERS

All companies are subject to risk of some sort, not the least of which are acts of ture Whether it is hurricanes in the Southeast, floods in the Midwest, or earth-quakes in the far West, the most extreme circumstances must be considered when

na-it comes to planning a business strategy Provisions should be made not only forthe operational aspects of the business in the event of a natural disaster (manufac-turing, distribution, service support) but for the repository of financial data and thedata flow dynamic as well SEC filings, state and federal tax returns, debt compli-ance, and the like must be attended to regardless of circumstances Although au-thorities make provisions for companies affected by such events, rarely if ever dothey forgive a reporting requirement In this age of electronic data storage, there is

no excuse for losing all financial data and the capability to gather it in the event of

a natural disaster

Many companies in high-risk areas have insurance to guard against businessdisruption and physical plant damage in the event of a natural disaster However,the life-blood of the organization—the ability to convert data to knowledge—must

be preserved in all circumstances Does the organization back up key data cial or otherwise) daily? Is the data stored in an alternate offsite location? If the or-ganization operates in a high-risk area, is this storage site in an alternate, less riskygeographic area? How about provisions for the finance function itself to continue

(finan-in the midst of a devastated area? It may take someth(finan-ing less than a disaster to pair a company’s ability to function For businesses in the southeastern UnitedStates, heavy rains and flood conditions are common during the late summer andearly fall If offices are flooded and computer systems are damaged, how will thecompany continue to bill and service customers? How will it close the books ifsuch an event happens during year-end? Do key personnel have alternate commu-nication and workstation capability? Has an alternate “hot site” or rendezvouspoint been designated in the event of disaster? Does a plan exist to mobilize keyfinance personnel to continue with crucial finance tasks?

im-TEN QUESTIONS

This book provides guidance and insight on finance infrastructure, policies, andthe culture of analysis What this book does not provide is the inclination to act.The following 10-question self-examination serves to drive home the need tostrategize the finance function

1 How much time spent on finance matters is quality time? Are the sion makers really making decisions or performing clerical financetasks? In a survey of over 1,000 large and small companies, Hackett

deci-Benchmarking Solutions, a consulting group in Hudson, Ohio, found thatthroughout the 1990s, finance managers were spending an increasingamount of time on clerical tasks such as billing, compliance, and book-ing journal entries and less time on decision support, planning, and man-aging the finance function They found that from 1996 to 1999, theamount of time spent on transaction processing increased from 41% to47% In that same time period, the amount of time spent on strategicplanning, business performance analysis, and cost analysis declined from18% to 16%.8Because the business executive’s time is at a premium inthe critical formative years of the business, it is worth the effort to set thestage for a well-oiled finance function that minimizes non–value-addedtasks Are the prime movers of the business making decisions or crunch-ing numbers?

2 How often does the organization focus exclusively on financial/accounting

tasks? Closing the books at the end of the month should not paralyze theorganization The objective should be to make a period-end close a non-event More time spent on pulling the numbers together means less timefor analysis and interpretation of the numbers This point applies to non-standard information requests as well The finance function should be able

to respond to all standard and (reasonable) nonstandard information quests relatively quickly How well does the organization’s finance func-tion do this?

re-3 How reliant is the organization on financing? Growing a business withother people’s money is what is great about being in business The down

side—it is other people’s money, and strings are attached Depending on

the type of financing in place or being sought, the organization may besubject to audits or reviews that are a matter of law Can the finance func-tion hold up to scrutiny? If the validity of numbers is in doubt, the financefunction is not adequate and the organization is not ready to use other peo-ple’s money to grow the business

4 Does the flow of cash into the business move in proportion with earnings?

Hardcore analysts look at these two major indicators of companyperformance—cash flow and earnings—and draw an overall conclusion

on the health of the organization If both indicators move in tandem overtime, that is good news If they diverge for any significant length of time,then red flags pop up all over the place Without getting too technical, thebusiness may have good reason for earnings and cash flow to diverge(investment in infrastructure may be one reason) The important question

to ask is: How quickly does revenue translate to cash? Does the tion have to wait an inordinate amount of time to collect cash from cus-tomers? This is often a problem and businesses do not even know it Goodcustomers may not be good after all if they deprive the business of cash

owed on the sale of products and services In the spawning years of anybusiness, optimizing cash flow is a must Does the finance organizationhave the capability to track this crucial indicator?

5 Does the business have a manufacturing/supply chain? If the business

is a manufacturer, how well is it using technology to streamline the agement of data related to the supply chain? “Managing the supply chain”refers to maximizing margins on goods sold rather than managing inven-tory If the organization has not considered initiatives such as purchasingsupplies online or sharing product purchase forecast reports with vendorsonline, it may be letting dollars slip through its hands Has the businessowner evaluated and strategized the supply chain?

man-6 Is the industry in which the business operates reliant on the Internet?

According to the Small Business Administration, small companies thatrely on the Internet for doing business have higher revenues than thosethat do not Internet-savvy small businesses average nearly 40% higherrevenues than the average of all small business revenue.9For all small andemerging businesses that are Internet ventures, it is no secret that the busi-ness environment is changing on a daily basis These business ownersmust ask themselves if they are prepared to change their business model

on a day’s notice In addition, they must have a feel for how well their datagathering, processing, and analysis tools suit their changing informationneeds Can the finance function change its focus at the drop of a hat? Be-ing able to thrive in this environment will mean being able to gather theparticular data needed, when it is needed most How well can the financefunction react to the organization’s changing needs?

7 Does the company rely on nonfinancial databases? The organizationmay be juggling a myriad of databases that gather both financial and non-financial data The organization’s marketing department may be presidingover a substantial cache of data that grows daily Is the finance functionplugged into this? Are business owners enabling forecasting and budget-ing by accessing this nonfinancial data? The ability for the finance organ-

ization to access all data gathered by the enterprise (financial or

otherwise) creates valuable synergies for the finance organization andmagnifies its impact on operations How well has the organization har-nessed this data?

8 Is the organization a new player in a new industry? Being the new kid

on the block is one thing, but starting up a business in an industry that isrelatively new is quite another challenge With nothing or no one to mea-sure itself against, the organization will have a difficult time establishing

meaningful metrics and benchmarks for growth The need to be

transpar-ent (translate easily to financial statemtranspar-ents) is more important than ever if

the business is alone in a new industry or niche The challenge of the smalland emerging business owner will be to navigate a nonstandard season orfickle marketplace while balancing seed money and other financing alter-natives Getting a hand on the pulse of the organization and getting itquickly will require a robust forecast and budget function as well as an ag-ile closing process The small and emerging business owner must deter-mine if the finance function is up to the task.

9 How does the small and emerging business owner visualize growing the

business? Do the owners and executives subscribe to the model ofgrowth through acquisition, or are they more comfortable with the organic(internally generated) growth model? If they subscribe to the former, arethey prepared to adapt a target company’s finance model to theirs? If thebusiness is predicated on an organic growth model, what metrics (meas-ures) and analysis models are being employed to reach growth goals? As

a practical matter, most business growth strategies should employ a fairmix of organic and acquisitive growth initiatives If financing will playany role in growth strategies, having a sound data flow dynamic will beimperative to maintain compliance with loan covenants and financialstatement deadlines Is the organization prepared for this?

10 How savvy is the management team? As a small or emerging company,chances are the management team has a broad skill set with no consistentdegree of depth in multiple areas Most likely, the management team

is heavy on the operations side, which can result in acute issues on thefinance side going unaddressed (traditionally these are viewed as an ad-ministrative or back-office function) Waiting to deal with finance and ac-counting issues until they become a crisis will cost the organization inboth dollars and/or lost opportunities It is possible, however, to take steps

in the early years of the business to set the stage for sound finance tion development Ignoring this part of the business in its infancy may putthe organization’s decision-making, operational strategies, and customerrelationships at risk The organization’s management team must ask itself:How much attention has been given to the finance function?

func-FINAL THOUGHTS

Evaluating the current state of the organization and the finance function thatsupports it can be a sobering exercise, especially when it relates to a businessentrepreneurs/owners may have spent their lives building If the 10 questionsabove have cast doubt or concern on the state of the finance function and its ef-fectiveness, let this book serve as a primer for organizing thoughts and developing

a sound strategy for finance function development The first step in creating asound finance strategy is recognizing the need to develop one in the first place Thenext step is to understand what the finance function is and why the need to strate-gize is so important.

4 Jake Wengroff, “SEC Scrutiny: They’ll Be Watching,” CFO, July 2001, p 12.

5 United States of America v Microsoft Corporation, U.S District Court for the

Dis-trict of Columbia, 2000

6 In the Matter of Caterpillar Inc., Exchange Act Release No 30532, March 31,

1992

7 Tim Reason, “Jailhouse Shock,” CFO, September 2000, p 113.

8 Eric Krell, “Finance Managers on the Wrong Track,” Business Finance, July 2000,

p 10

9 SBA, www.sba.gov/advo.

FINANCE FUNCTION DEFINED

FINANCE FUNCTION IN ACTION

Conceptualizing, implementing, and maintaining a finance strategy requires an derstanding of the finance function itself This function has many components,some more easily defined than others The finance function serves as the founda-tion for virtually all aspects of the business—from gathering data and converting

un-it to knowledge, to performing due diligence on expansions, to disseminating nancial data to the general public

fi-So what does the finance function do? Many aspects of the business are

prompted, driven, or dependent on the finance function However, some of the lowing areas also are considered an explicit part:

fol-■ Budgets and forecasts

■ Closing the books

■ External reporting

■ Paying bills

■ Billing and collecting cash from customers

KEY TAKEAWAYS

■ Understanding the basic tasks of the finance function

■ Understanding the definition and purpose of the finance function

■ Distinguishing between two major components of the finance function: crete components and soft components

con-■ Recognizing traditional perceptions of the finance function and how to come them

over-■ Understanding how and why to synchronize the finance function with operations

■ Understanding how to preserve the dynamic nature of the finance functionand why it is important

■ Understanding why the finance function must preserve the integrity of cial representations of the company

finan-■ Paying salaries

■ Financing

■ Collecting and paying taxes

■ Human resources

Budgets and Forecasts

For publicly traded companies, budgeting and forecasting play an integral role inrelating to the external community Because earnings and growth estimates drivestock price, garnering accurate budget and forecast data in a timely manner is key

to achieving an optimal stock price and market capitalization for the enterprise.This aspect of the finance function is no less important for small and emergingbusinesses that are not publicly traded Understanding raw material needs, per-sonnel needs, and expansion requirements will force the small and emerging busi-ness owner to thoughtfully estimate their needs in the business environment

Closing the Books

Also referred to as the close, this aspect of the finance function is the process by

which all subsidiary ledgers and journals of the organization are summed up for agiven time period while assets and obligations (liabilities) are valued The close may

be relatively simple for small, single-site organizations or complex for large, national organizations The close may cover activity over a period of a month, quar-ter, or year The value of a quick close is the ability to assess the organization andprovide a basis to make business-wide, strategic decisions An organization that hasdifficulty with the timing of a close or with the accuracy of the data this processyields is at risk if the industry in which it operates moves quickly and changes often

multi-At the heart of the close is the data flow dynamic, which is the process bywhich the data is gathered at the front lines of the organization and translated intomeaningful information for management A sound data flow dynamic is agile—itworks quickly and can react to the changing environment A sound data flow dy-namic will yield complete and accurate information to the management team.The ideal closing process can be done over a period of hours, which means itcan be executed on any given day Global organizations or organizations with mul-tiple geographical locations rely heavily on a quick close Small to midsize organ-izations also should have the capability to close their books organization-widewithin a few days This enables the business to look at the entire organization’s per-formance on a monthly basis without disrupting operations

External Reporting

Organizations with outside financing, absentee shareholders, and certain regulatoryrequirements to follow have standard external reporting requirements Typical ofmany companies, this shows how banks, shareholders, and the general public are

all stakeholders in the organization Unlike owners who participate in day-to-day

management, these stakeholders do not have ready access to the performance

re-sults of the company In spite of this absentee ownership, shareholders and debt

holders (those lending money to the company) still have an interest in the pany’s performance They rely exclusively on the legally mandated reporting re-quirements of the organization to gain an understanding of company performance.Publicly traded companies are subject to comprehensive reporting require-ments These reporting requirements typically have hard deadlines (quarterly) andcontent requirements Public companies must adhere to the detailed requirements

com-of generally accepted accounting principles in preparing the details com-of account ances as well as additional nonfinancial disclosures mandated by the Securities andExchange Commission The final product must be subjected to audit or review pro-cedures by a qualified professional (a certified public accountant)

bal-Because the majority of owners (stockholders) of public companies are sentee (i.e., do not participate in day-to-day management or operations), they rely

ab-on the accuracy and predictability of the data coming from the companies in whichthey invest They hold the company to performance predictions or forecasts and

typically punish those companies that do not meet their expectations by dumping

(selling) the stock This fact underscores the need for good data and shows how ternal reporting may have both an actual and a budget/forecast component Com-panies must realize that before going public or taking on outside stakeholders, theymust ensure their reporting process is sound from the data flow dynamic to the dis-semination of data to stakeholders Maintaining credibility with the external com-munity is key to optimizing stock price or future consideration of stakeholders

ex-Paying Bills

Managing cash in and cash out is critical for the small and emerging business It isimportant to ensure that vendors, creditors, and service providers are paid the properamounts at the proper time Optimizing cash flow means staying adequately liquid(having as much cash on hand as possible) at all times The finance function mustrecord and maintain payment policies that balance the organization’s cash needs(optimize liquidity) while paying bills within a reasonable time period Rather thanpaying bills as they are received, organizations should take advantage of paymentterms Paying a bill the day it is received as opposed to waiting through a vendor-approved term of 30 days or more may deny the organization cash it needs to runthe business A sound finance function schedules cash payments that optimize theorganization’s cash management objectives—which means keeping as much cash

on hand as possible while satisfying vendors and their payment terms

Billing and Collecting Cash from Customers

Most important, an organization’s success or failure is based on how well it canbring in cash Many companies can have substantial difficulties in billing and col-lecting from customers Terms and conditions of delivery and/or satisfactory