Let’s Talk About Dough, Baby….
I love it when numbers people (read: my ilk) lead with barely understood inside jokes when they are addressing, you know, non-numbers people.
Sometimes I lean back and just for kicks, count how many times ‘bottom line’ makes an appearance in the conversation. And then everyone around the table, even the uninitiated, sagely nods. No one is going to ask ‘what the hell do you mean by bottom line?’, even if they really can’t relate their traditional understanding of bottom line to the conversation in question.
For most entrepreneurs (especially creatives) brainstorming over business ideas, developing innovative products and launching your awesomeness into the world gets their juices flowing. But start to speak about financial management or cash-flow and everyone’s (bar mine) eyes glaze over.
I strongly subscribe to the notion that it makes sense to focus on what your competencies are and outsource the other parts of your business to an expert. But if you are a co-founder or CEO of a firm, you MUST and I repeat MUST have a basic idea of the numbers in your business – what they mean and what to watch out for.
So let’s demystify some of the basic metrics that you will come across regularly and why it’s important to understand them.
Top line, Bottom line and all that jazz
Top line simply means revenue, and revenue gets us hopped up on confidence. As this number grows, it validates your idea and says that your customers believe in product. It is one metric to look out for, but by all means not the only one. There is a reason why we say ‘Top line is vanity’.
I have heard founders saying ‘ I’m the CEO of a 10 million USD turnover firm’ but never ‘ I’m the CEO of a 10 million USD turnover firm making 1 million in losses’. See? Vanity.
From a strict sense, bottom line means profitability or net income. This is the number in your income statement (this used to be known as the profit and loss account) after you deduct all business expenses from the revenues.
But say that you run a start-up and for the first one year do not expect to turn a profit. The metrics you will use to evaluate whether your business is hitting its key milestones will be different. For example in an online startup, the immediate metrics to watch could be no. of clicks, signups from the call to action page, followed by conversions and eventually, paying customers.
It irks me to no end to admit that we do not have any empirical evidence related to small and medium sized businesses on the continent. The dearth of research is something that we must resolve. And soon.
However, according to Bloomberg and Small Business Administration, 8 out of 10 new businesses fail within the first 18 months, 50% fail within the first 5 years and only a third make it to the 10 year mark. Given that this research is carried out in developed jurisdictions where legislation and structures around the business environment are more solid, I daresay our stats would be much higher.
And finally, Cash Is King
Another of those industry not-so-inside jokes. There’s a reason why I eat, live and breathe this phrase. Picture this. An entity could have a significant turnover, turn a healthy profit but still be wound up or end up insolvent i.e. unable to settle its liabilities when they become due.
The reason for this is something we call the ‘recognition principle’ in finance. For example, you make sales on credit meaning your clients have 30 days to make payments.
Your creditors, or suppliers also give you credit terms of 30 days. Other expenses on the 30 day mark that have to be covered are salaries, rent and other overheads.
Not carrying out proper cash-flow management could land you in a situation where you have not collected enough funds to pay your liabilities, yet salaries, rent and bills cannot wait.
This scenario is not uncommon and is one of the reasons why businesses with a proven track record, responsive products and a profitable business model fail. If you have to choose just one metric to be anal about as a business owner, then I would recommend you make cash it.
Now, say this after me and sear it into your brain so you never forget it.
” Top line is vanity
Bottom line is sanity
Cash Flow is your reality”
2015 Mandela Washington Fellow