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Ten Things to Think About
I was off last week attending a great tennis tournament in Indian Wells, CA. So, no blog last week. But while I was there, I met an interesting fellow who had built a profitable business over nearly 40 years and was thinking about selling it and retiring (whatever that means). He asked me what he should know before approaching an investment banker or business broker, so he won’t sound uninformed. I sent him my list of 10 things to think about and offered to help him prepare. He may or may not take me up on it, but I thought it would be a useful subject for a blog post, so here’s my list:
- Understand the true value of the business: In order to sell a business profitably, the owner needs to have a clear understanding of the true value of the business. This involves assessing the company’s financial condition and market position to determine the business’ overall value.
- Plan the sale ahead of time: A well-planned sale can maximize the value of the business and ensure a smooth transition. We tell clients to start the process 2 to 5 years ahead of time, depending on the condition of the business.
- Select the right buyer: Choosing the right buyer who has the resources, experience and vision to run the business can be a crucial aspect of selling a business. This can be very different if the buyer is a financial buyer, a strategic buyer, or someone wanting a lifestyle business.
- Negotiate the deal effectively: Negotiation is critical when selling a business. The owner needs to be able to negotiate effectively in order to get the best possible terms for the deal, while also satisfying the buyer’s requirements. This is where the broker or banker earns their fees.
- Seek professional help: Selling a business can be a complex process, and it is often helpful to seek professional assistance from accountants and, lawyers. They can help with tax strategies and legal matters, such as ensuring legal compliance and mitigating risks.
- Maintain confidentiality: Confidentiality is critical when selling a business, as leaks can negatively impact the company’s reputation, employee morale, and customer relationships. Owners should use non-disclosure agreements when sharing sensitive information.
- Create a strong marketing plan. The right advisors will help the seller emphasize their unique selling proposition, financial performance, and growth potential. This is a key area of preparation in which the banker or broker can be a critical member of the team.
- Be prepared for due diligence: Due diligence is a critical step in the sale process, where the buyers ask all the hard questions. They will look for ways to lower the price, so owners should be prepared with accurate documentation, and address any potential issues before the buyers find them.
- Plan for post-sale transition: Assuming the seller doesn’t want to remain after the sale, they should plan for a handover period, where they can train the new owners, introduce them to key stakeholders, and provide ongoing support and guidance.
- Have realistic expectations: Owners should have realistic expectations about the timeline, valuation, and terms of the sale, and be prepared to negotiate, perhaps compromise, but still be protective of their interests, including the possibility of walking away from a deal if it’s just not right.
How do we know this stuff? We’ve done it a few times, and we’re still doing it.
We are Your CFO for Rent.
Hiring Staff Is Hard! Let’s Not Make It Harder.
One of today’s most pressing challenges for growing companies is finding staff to do the work that is needed. While good people are always hard to find, this time around the challenge is magnified, and often hiring managers make it harder by setting a bad example. Here are some thoughts to help you get it right, even if it takes a little longer.
“Relax at the helm and let your team lead.” This only works if your team knows how to lead, either because they learned it before you hired them or you effectively taught them how you want them to lead and then stepped aside and let them do it. In my experience this actually happens less than half the time, likely because
- they didn’t really learn before you hired them, so couldn’t be successful on Day 1, or
- You hired people for the amount of money you wanted to spend, and it wasn’t enough to get the right people to begin with, or
- you told them how you wanted it done but didn’t trust that they’d do it your way, so you reserved most of the decisions to yourself anyway.
Yes, Virginia, the resulting management style is called micromanagement.
And then there’s this one: “They keep screwing up, not getting it right, not doing it the way I wanted it done.” This comes from the leader who has an internal sense of what they want to happen but has failed to communicate effectively to the team, who keep disappointing, thus validating the leader’s inborne assumption that ‘it won’t get done right unless I do it myself.’ The key to this one is ensuring they don’t understand the message so the leader can reassure themselves that their people don’t support them or appreciate them or understand them. We find some level of this leadership behavior in almost a quarter of the companies we work with. And while most of our work is focused on the financial side of the business, money doesn’t get things done. People do. Or they don’t.
Oh, of course, there are those leaders who are simply happier making all the decisions themselves, and perfectly happy with the resulting performance of their team. They like being essential to every part of their company and are satisfied that it will always be only as large as they can personally manage, which is to say small, or lifestyle, businesses.
And finally there’s the longer, more time consuming, more labor-intensive way – hiring the right people for the right reasons, grooming them in the culture of the company, compensating them according to agreed goals and objectives, and then getting the h— out of their way unless they need your advice. You may soon feel like they don’t need you anymore, because everything is running so smoothly you have to spend your time looking for opportunities to grow, expand productivity, plan for tomorrow’s next steps, maybe even plan your successful exit. Bummer.
We are Your CFO for Rent.
Toward More Creative Variance Analysis
As we urge every CEO and business owner to do, we compare actual results with the projections the client made at the beginning of the year, whether it’s a formal budget with staff accountability or not, and we ensure a discussion with management follows. Even without staff accountability, there is value in management learning what differed from what they had estimated only a few months ago, and looking beyond the basics for answers that will drive better results. Here’s a short example of that interaction with a current client, a product distribution and service company.
The monthly results were published. Revenue fell short but the bottom line beat the profit projection. Then we compared key elements as a percentage of total revenues, and that revealed that Gross Profit Margin (GPM) was 51% vs. the projection of 44%, each measured against their respective revenue projections. That was the lion’s share of the profit improvement, and it turned a mediocre projection into a solid gain. We saw that a dollar of sales cost them less than they thought it would. Let’s go further.
We next calculated the percentage of revenue of each element of Cost of Goods Sold (again, against their respective revenue numbers, so that the anticipated relationships are preserved).
Their labor provided to customers is their most profitable offering, and it’s an essential part of every sale, so we looked there first. The percent of revenue projected was 12%. Actual percent of revenue achieved 12%. Clearly not the contributor we were looking for.
Next, parts and components that are typically part of every sale came in 2% under the projection. No one recalled any comparison between vendor invoiced costs and the client’s price list to see if a price increase differential was the reason, so some homework to be done there.
Then we got to equipment – the largest dollar category but the least flexible in price due to supplier controls. Turns out their equipment sales cost 5% less as a percentage of sales than forecasted. That’s a big number. Why did that happen? Product mix? Price list revisions? Missed budget (always a possibility)? More homework to check that out, but we felt pretty good that the resulting research would give us information that would enable us to do a couple things better:
- Compare our price lists with vendor invoice costs to see if we are keeping up with passing cost increase through to our customers, or over-compensating,
- Help our marketing and sales teams drive their efforts in optimally profitable versions of the sales plan, with new information, and
- If needed, help to improve our forecasting accuracy with more real data.
This is more analytical than the traditional budget variance analysis, that looks at dollar differences by line item and stops there. A bit more homework. But it’s also more useful in driving management actions than analysis based on dollar variances alone. Better data, better analysis, better results. Perhaps you should consider it. Why do we say that? Because…
We are Your CFO for Rent.
Cash Management According to ChatGPT
“Cash management is a critical function for any business, involving managing cash flow to meet financial obligations, invest in growth, and succeed in the long-term. Effective cash management is vital to maintaining financial stability and avoiding cash flow problems that can negatively impact the business. It also enables businesses to free up cash for investment and growth, which can help them stay competitive and increase profitability.
Cash management can also help businesses manage financial risk and avoid taking on too much debt, as well as build stronger relationships with suppliers and other stakeholders. By paying suppliers and creditors on time, businesses can build trust and credibility, leading to more favorable pricing and better access to credit and financing.
Finally, by setting clear financial objectives and developing a cash management plan, businesses can stay focused and on track towards achieving their long-term financial goals. Effective cash management is crucial for any business, regardless of size or industry, to position themselves for success, even in challenging economic conditions.”
For those not yet familiar with this new tool of AI (Artificial Intelligence) I downloaded the free (for now) ChatGPT app and gave it a simple task: Write 300 words on the importance of cash management to business owners. While ChatGPT apparently can’t count very well – the result was 166 words long, not 300 – it got the logic of the question accurately and pretty well defined the key reasons why cash management is important to business owners. In several tests run by an associate during a group meeting earlier this week, it responded to several requests to write marketing letters or legal opinions, and responded in less than a minute to each request. In every case, as in my example, the logic was sound, the opinions well stated, and the conclusions reasonable. And at no time did a human being touch the requested response before it was delivered.
Think about that for a moment. A computer algorithm using its access to the internet to create a plausible chunk of text that looks like it was written by a financial consultant. What if it were represented as actually being written by someone you know? What if it came with instructions to send money, or pay the bill, or vote for a make-believe candidate? How will you know that it wasn’t written by your accountant, your banker, or your grandmother? How will you know if your kids earned that A or if they simply copied and pasted an AI response?
The power of evolving technology is – as we have long recognized – both a friend and a fiend. It gives us the opportunity to be much more productive, or to be duped into making a serious error in judgment. The need for awareness when we open our laptops has never been greater. Something to think about. Why do we think about these kinds of things? Because…
We are Your CFO for Rent.
Risk vs. Reward: It’s About Choices.
We’ve all heard about the relationship between risk and reward in business – the higher the reward, the greater the risk that inevitably follows it. Nowhere is this more true than in real estate investing. Well, maybe crypto stocks are still ahead, but in real estate you have choices that aren’t all in or all out. This was demonstrated this week in a conversation I had with another small property commercial real estate syndicator. The comparison was interesting.
His purchases have to date been smaller deals, in industrial areas with tenants whose names you wouldn’t recognize, sometimes with lease terms that necessitated a refinance early on because it wasn’t possible to get long term financing for not-so-long term tenant commitments. Sounds a bit far afield from the kinds of properties we prefer – long-term leases with built-in rent accelerators for premier tenants in inflation-proof healthcare industries.
But that’s where the choices come it – it’s not simply black or white. His properties are in pretty solid businesses – warehousing for some small but successful industrial tenant deemed likely to stay awhile, for example – and his cap rates to his investors are a full point or two higher than we typically offer. While all Absolute NNN deals (no repair obligations slipped in), they require more handholding to make them work, like early refinancing once a short term lease has been lengthened to reduce the debt service cost, or having to decide whether to negotiate higher renewal rates or sell the property sooner than might be necessary to capture the full anticipated returns. But the promised returns are very nice, in return for the higher risk.
We talked about his interest in getting into bigger deals, and our possible interest in taking on a bit more risk to improve our overall returns until the spread between cap rates and interest rates widens again. Those are the kinds of trade-offs investors need to make if they want to expand their portfolios in today’s market. We have looked outside our traditional healthcare focus at some different but equally successful business models, such as dollar stores, fast food chains and value-add residential, and have even invested some money with other folks who are willing to exert the management effort that we don’t want to take on.
All in the interest of making choices to balance off risk vs. reward, and to put capital to work in an economy that is demanding better returns but not yet offering the best opportunities to capture those returns. So far, we’re still waiting, but constantly looking. How will we know when the time is right? We know how to read the signs. That’s what we do, because…
We are Your CFO for Rent.
Safe or Easy – Pick One
- North Korea-backed hackers stole $1.7bn (£1.4bn) of crypto in 2022, says blockchain analysis firm Chainalysis. For
context, North Korea’s total exports in 2020 totaled $142m worth of goods, so it isn’t a stretch to say that cryptocurrency hacking is a sizable chunk of the nation’s economy. - The (Justice) department said it had successfully prevented victims from having to pay $130 million in ransoms to Hive, a prolific ransomware gang, before seizing two of the group’s servers on Wednesday night.
These are just two news items from a blog that I read weekly, to keep aware of trends in this problem area of cybersecurity that everyone talks about, but that too few (CEOs) are doing enough to protect themselves from. The blog is called “Cybersecurity News of the Week & Weekend Patch Report” and its author is Stan Stahl, the best-known expert on cybersecurity protection I know. The quotes I chose are not to suggest that North Korea or Hive are coming for you, but to remind everyone that hacking can hurt us all in many ways, only one of which is by picking our pockets directly.
OK, maybe they are coming for you and we just don’t know it yet, but our job – your job in your company – is to make it difficult rather than easy for them and others to succeed. And that means keeping aware and updated. And that means your software, the publishers of which issue regular updates in the form of patches for security risks that they have discovered and fixed. Besides relevant news, every issue of Stan’s blog contains a list of new updates along with the current versions of most of the popular software in use today, and if our stuff doesn’t match Stan’s list, I get busy. Even better, Stan recommends www.ninite.com, a resource that can check all your applications against current versions and automatically handle many needed updates.
So my message for you today is this: Sign up for Stan’s weekly letter. You can do that at www.securethevillage.org. How do we keep up with all this stuff? It’s our job.
We are Your CFO for Rent
Marketing Spend: Which Half is Wasted?
Those of us who have spent our careers in the financial world have been working with a quandary for many years: It’s very important to invest in marketing, but only in the marketing that works. And, as most marketing experts will tell you, “You only really know if it works after you spend the money.” A sharp CFO will then come back with “Show me how you will measure that, so we don’t just spend the money and then hope we did well.” You can see how this back-and-forth debate can go on endlessly, between the two critical support functions backing every company’s CEO.
The good news: everyone knows, including the CFO, that marketing drives sales and sales drives the company’s bottom line. As an old friend of mine was fond of saying: Nothing happens until you sell something. Actually, one thing happens before you sell something: you create prospective buyers.
The bad news: everyone knows, including the CMO, that companies fail every year by spending themselves into the ground trying to create a new market or grow an existing market, and going at it the wrong way, with the wrong product or to the wrong market, which is discovered after the wrong way ends in the collapse of the company.
There has to be a better way. And today, happily, there is, thanks to the advances of technology and the prolific use of online marketing techniques to drive virtually every company’s marketing strategy. Today we have options that didn’t exist when we launched Your CFO for Rent 35 years ago, thanks to the increasing capability of companies to capture data in a timeframe that enables informed decision making, including redirecting test marketing efforts, reinforcing successful initiatives on the fly, and cutting programs midstream if they are proving fruitless. The trick is picking and using the most effective KPIs to capture, measure and review the most relevant data.
The job of the executive management team is to ensure that the right tools are put in place to do that, avoiding the strategies of the past in which everyone hoped the CMO’s plan was a good one, and waited anxiously for the results at the end of the day. Here are a few proven KPIs for your consideration:
- Website traffic growth from period to period – whether supporting brand awareness, outreach, or product recognition, this metric is the most basic strategy for scaling a business, creating new opportunities to convert visitors into customers.
- Traffic-to-Lead conversion rate – how much website traffic converts to leads that express interest in buying something, best tracked as a percentage of website traffic visits. This measures your ability to build trust between you and your visitors, so they become prospects when they’re ready to go shopping. Call it your Marketing Qualified Leads metric, or MQL.
- Marketing Qualified Leads to Sales Qualified Leads, or SQL – this percentage captures the transition from aware and curious (MQL) to significant interest in your product offering (SQL), even if they’re not yet ready to commit. These are the leads that get passed to your sales team, who will try to convert them into sales.
- SQL to committed sales – this one doesn’t need a label, only a number, the percentage of SQLs that become closed sales. And finally…
- Marketing cost per sales dollar – the KPI that measures how much money you spent to get a new customer, calculated by all the costs of the first 4 steps, divided by the number of new customers captured. Ultimately translated into the marketing cost per dollar of monthly sales.
I wish we’d had the ability to track this kind of information without the painful manual data collection 35 years ago. The concept was there but the implementation wasn’t easy to sell or carry out. But we have it today, and we know that because, as you know…
We are Your CFO for Rent.
Read Between the Lines
As I sort through our daily barrage of emails, I see more than a few offering webinars or workshops or white papers promising to help business owners learn how to read their financial statements. All very nice and certainly addressing a need we frequently see when we take on new clients. But none of them talk about the real secret in financial statements – the stuff between the lines – or between the numbers – that provide critical information for managing the business. Call it financial analysis or reading the tea leaves, most CEOs don’t see it in time.
Brings to mind a client of ours, a company with owners looking to plan their exit and considering the sale of their business as an exit strategy.
Only one problem. After years of profitable operation, today they’re not making any money. Inflation has added to their costs, too many fixed price contracts have prevented them from passing (most of) those costs through to their customers, and the barely recovering economy hasn’t boosted sales enough to cover the increases in overhead costs once considered fixed. To top that off, customers are paying more slowly, and our client has tapped out their credit line to pay their own bills because their customers aren’t paying on time. Finally, their biggest customer – the one with most of the fixed price requirements – wants to extend their contract into the future, ideally retaining as many of those fixed prices as possible.
Hard to see a bright future with that as a starting point. What can they do now?
Here are some ideas we suggested to try to make lemonade out of lemons:
- Start now to educate their big customer that future anticipated price increases will have to be built into any new agreements, and do the research to be able to defend the pricing they want to get.
- Help their big customer understand that competitors are facing the same cost pressures and will not be ready to bid at pre-inflation pricing just to buy the business.
- Put more effort into identifying those costs that have increased in areas that can be passed on to customers, and get that into their billing system to ease the pain a bit.
- Be more assertive in getting customers to pay on time to ease the pressure on the company’s credit line, and get it paid off or reduced as much as possible.
- Try to capture more profitable business by learning what areas of their market have the best future prospects, and go after that business aggressively.
- In the end, be prepared to stick around a couple more years so that profitability is either recovered or clearly on an uptrend, so that a buyer can expect a positive ROI rather than buying a turnaround opportunity.
How did we get all that from interpreting their basic financial statements? By reading between the lines, because that’s what we do.
We are Your CFO for Rent.
IRS provides 1031 Exchange Relief
Relief from the impact of weather is not something we expect from the Internal Revenue Service; hearing from them is more often than not receiving a disturbing letter in the mail. But sometimes we get surprised. Politicians wanting to defund the IRS for collecting taxes will be even more surprised.
In this case the surprise is an announcement that impacts real estate investors who started a 1031 exchange just as severe storms and flooding descended on the areas where their businesses are located, impacting their ability to initiate or complete transactions that involve selling one property and buying another, deferring the gain on the property sold until the replacement property is sold.
In each case the IRS has granted additional time to complete exchanges that were initiated but could not be completed in time, avoiding the potential pain of tax benefit losses because transactions could not close in the time required by IRS regulations. Interestingly, the extensions are based on the principal place of business of the investor, not the location of the exchanged property or the relinquished property. I guess the rationale is if you couldn’t go there because you were canoeing to your local supermarket, you likely couldn’t complete the deal on a timely basis.
The states that were named in the extensions and the time periods triggered by the extensions are:
- Illinois, between July 25 and 28, 2022
- Florida, beginning November 7, 2022
- New York, beginning November 18, 2022, and again beginning December 23, 2022, and
- California, beginning January 8, 2023.
The extension announcements specify counties within each state that are included in the extension authorization, but it’s too detailed to list them here. If you have initiated an exchange that got snagged or delayed in any of those states due to weather, reach out to your tax professional or your exchange accommodator – we use First American Exchange Company – for details and the process for taking advantage of the extensions.
And if you were not impacted by the weather in a real estate transaction, but are thinking about it, be sure to read my November 23, 2022 post on the real estate investing climate at https://www.cfoforrent.com/blog/. How do we keep up with this stuff?
We are Your CFO for Rent.
Entrepreneurs beware!
I had a meeting this week with an entrepreneur/founder who had been advised to engage a fractional CFO to help him manage his company. The business is actually in its 7th year and has been singlehandedly managed by the founder, growing to a few million dollars in revenue last year with the market opportunity to grow to $10 million in short order. During the conversation I learned that the founder:
- has no financial background to guide his financial decisions,
- doesn’t quite know whether he’s currently operating at a profit or loss,
- has SBA loans with accruing interest that has never been calculated or recorded,
- has a single person CPA who responds to questions but doesn’t offer advice, and
- has never gotten a monthly financial statement from his outsourced “bookkeeper.”
Really? This is a dangerously under-served business owner who could be in crisis and not even know it until it’s too late. And yet in this era of smart professionals choosing to start their own businesses rather than return to an unsatisfying job, I believe this is far more common than we’d like to believe. This blog will hopefully find its way into the hands of others in a similar situation. If you know someone who is starting a business, has recently started one, or even – as in this case – been operating for some time by figuring it out as they go along, and assuming the light at the end of every tunnel is a green light to proceed as before, please share this with them. Every business, small or large, new or old, needs basic financial information to survive. That includes this very minimal list:
- a monthly financial report that includes an income statement, balance sheet, cash flow, and comments from the preparer about anything that isn’t self-explanatory,
- a reliable list of who is owed money, how much, and when it’s due (including SBA loans),
- a reliable list of all customers, what they bought, how much they owe, when it’s due to be paid,
- a reliable list of all assets owned by the company, their cost and estimated service life.
- if the company carries inventory, a reliable method of keeping track of that inventory – what they have, how much of it, its original cost, and any diminished value that has occurred.
And that’s just for starters. And you don’t get that kind of information by keeping your record in your checkbook or in your head. You get it by asking people who understand how to capture, track and report that information.
An entrepreneur launching a new venture may believe hiring a good sales person is more important than hiring a good bookkeeper or accountant. But they’d be wrong. They’re equally important, because the business cannot succeed without both skills in the mix. And even if the first accounting hire is an outsourced bookkeeper because the founder can’t afford a fulltime employee yet, they need to make sure that person is skilled at what they need. And if they don’t honestly know what they need, they should ask someone with skills in that area to assist them. Maybe a good CPA and maybe something more. Like what, for example?
We are Your CFO for Rent.
