Many of us feel uneasy when it comes down to financial matters. If you are a Manager struggling to understand finance reporting, this may make that part of the management meeting when ‘Finance’ is on the agenda awkward for you. Or maybe it’s a challenge to know what to do when you’re looking at our budget report.
We believe all managers should be able to read accounts, make sense of them, and make informed management decisions.
Part of the problem is that financial reports have so many numbers in them. Where do we start? Then the jargon is difficult. Finance seems like a foreign language! And in a meeting the accountant gives out the report and asks ‘Any questions?’ long before we’ve had time to assimilate it.
Next time you’re in a meeting and Finance is on the agenda, look round the room. See how many people just glaze over because they don’t understand it. It’s a widespread problem!
So what can we do about it?
First, we can understand what to look for. Financial reports are lengthy, but some lines within it are more important than others.
Second, the sole purpose of financial information is to highlight where something unexpected is happening – whether that’s better or worse than expected. So we can learn to spot the unexpected.
Third, we can ask the right questions. There are no answers in the financial report, just questions. And they’re not financial questions that no-one understands, they’re questions about the business that most people in the room will engage with.
The first three important issues are:
- How much is coming in?
- How much are we spending?
- What’s the surplus or deficit?
These 3 questions are as true for an organisation as they are for our domestic finances. So get a highlighter, and highlight these 3 lines in your report.
The income could be called sales; turnover; revenue; or income. It’s could be sales to customers; grant income; government funding; or – for a Local Authority – tax receipts. Few organisations will have no income, but many cost centres won’t have an income, so you may not find this line on your report.
Next, look at your total costs. At Board level these could be divided into Cost of Sales (production costs) and Overheads (the cost of HR; IT; Finance; Sales & Marketing and the other service departments). In a cost centre they could be divided into Direct costs (those costs you are responsible for) and Indirect costs (other departments’ costs that are allocated to you).
Then look for your surplus or deficit (or profit or loss). Are you making money or losing money? If you have no income, you’ll have no profit or surplus, so don’t be surprised if you don’t find this line!
The next 3 key issues won’t apply to everyone:
- How much money is in the bank and what’s the overdraft limit?
- How much is in inventories (stocks and WIP)?
- How much do your debtors owe?
These questions won’t apply to everyone, and the first will only be relevant at the organisational level – if you’re a budgetholder it isn’t your responsibility!
The inventories are the stocks of raw materials and finished goods, and the unfinished work in progress. They won’t apply to everyone. Inventories are important because they tie up cash, which means less money in the bank! If you have a warehouse or showroom, walk round it one lunchtime and try and work out the value of the goods there. That’s all cash that isn’t in the bank account!
What’s the value of debtors? Debtors represent work we’ve done and invoiced, but the customer hasn’t paid us yet. Again, it’s cash that isn’t in the bank account.
The purpose of financial information is to highlight where things aren’t going according to plan – whether they’re better or worse than planned. So in the report we’re looking for anything that’s unusual or unexpected.
Your report will have several columns. One will be ‘Actual YTD’ (Year To Date). That’s what we’ve actually earned or spent so far this financial year. Another will be ‘Budget YTD’. That’s where we’d hoped to be by now. There’ll probably be a ‘Variance’ column: that’s the difference between the actual and budget.
So are you on target, or better or worse than expected on profit? What about sales and costs? and – if appropriate – what about the bank; inventories and debtors?
You might also have a column for PY (Previous Year) YTD. How are you doing this year compared to last year?
Then compare the financial numbers to what you know is happening. If you’ve shipped more goods this month than ever before, but sales are low, that’s unexpected.
Finally, run back through the detailed costs. Highlight your 5 biggest costs, and check that they feel okay and you understand them. That way you’re keeping on top of your biggest expenses.
Ask the right questions
Now that you’ve highlighted where things aren’t going according to plan, it’s time to find out why. The financial numbers won’t help you here: all they’re doing is pointing to where the problem is. They won’t help you solve it.
Pick one area where the financial numbers have highlighted an issue, and ask the three following questions:
- What’s happened to cause this?
- What are we doing about it?
- What are the wider implications?
The first question will highlight the cause. If we don’t know why things have gone wrong we can’t put them right. Equally, if we don’t know why we’re doing better than expected, we can’t repeat it. Be prepared to dig a bit though, and make sure you get beyond the “usual suspect” and down to the real reason.
The second question will begin to identify actions. We need to know who will do what to put things right (or to keep things better than expected).
The final question is important too. There will be implications: on our staff; customers; suppliers; other teams; etc. Who needs to know what, and how will we communicate it?
Whilst you’re asking these three questions, watch what’s going on. Many of the people who glazed over when ‘Finance’ was being discussed, start to engage once we’re talking about practical day to day operational issues.
A word of warning!
Remember those three questions? They’ll be the same questions your boss will ask you when they review your budget. So make sure you’ve already thought about the answers…
Thanks to Alex Hewlett for writing this for us. Alex Hewlett (MITOL) is a Chartered Accountant who has specialised in helping the people outside the Finance department understand how they can help their business achieve financial success. His training is simple, enjoyable, and practical.
Alex obtained his training qualification with The Development Company, and he delivers Finance for the Non-Financial Manager courses on our behalf. Contact us if you’d like your Managers to be able to make informed decisions to improve profitability.