Success Needs Sufficient Capital Resources
To succeed in business, you need sufficient capital resources. In fact, it is said that the number one source of failure for small business is running out of money.
If you do not have a realistic assessment of the money that is needed to implement your business plan, you run the risk of running out of money. If you run out of money, your business may likely fail. Failure to have a realistic understanding of the amount of money that is required for the business overall and to implement certain new ventures, particularly, can lead to ruin.
Failing to have adequate money for the business can be a mistake.
Lacking a Financial Plan
Every business must have a financial plan.
While creative approaches can be employed to address shortfalls in many critical resources, the one resource no company can do without is money. If you do not plan your financial needs, you may find that the demands for money exceed the available supply. If you run short of money, you may not only lose opportunities, but also lose the business.
Failing to have a financial plan can be a mistake.
Failing to Create a Banking Relationship in Advance
Relationships take time to develop—and a banking relationship is no exception.
Astute executives recognize that creating banking relationships can take time. Consequently, they invest the necessary time to create the relationship. By having spent the time to create the relationship in advance, when they have banking needs the bank is more likely to respond positively, than had the initial investment to create the relationship not been made.
Failing to invest necessary time to create the banking relationship can be a mistake.
Relying on a Single Financing Source
Many banks insist on being a company’s sole banker.
Although there are many reasons why the banker may want to be your sole banker, it is very risky for a company to bank with only one bank. If you rely upon only one bank, you may find that you are exposed to significant, unanticipated risk. What if the bank decides to stop doing business with your type of customer? What if the bank decides to change its policies or lending criteria? What if there’s a change in personnel and your previous good relationship is replaced by someone who is less than sympathetic to your company and its financing needs? If you rely exclusively on one financing source, you may find yourself in trouble at the very time you need financial help.
To rely on one financing source is a mistake.
Asking for Money at the Wrong Time
The timing of when you ask for money can be the crucial consideration on whether or not you get the money you want.
If you ask for money when you really need it, you are less likely to have your request granted than if you ask for money when you don’t need it. There’s a saying that a banker is quite willing to lend you an umbrella on a sunny day but not on a rainy day. To get access to the money you need, you should ask for it when you do not need it. Then, when you need it, it will be available.
Asking for money at the wrong time can be a mistake.
Confusing Accounting Profit and Cash Flow
Accounting profit and cash flow are not the same thing.
Cash flow is the difference between the cash you collect and the cash you pay out.
Accounting profit includes cash, but with many adjustments for non-cash items, revenues that are expected to be paid in cash at a future time but have yet to be collected, plus expenses that relate to expenditures that apply to multiple time periods and need to be assigned to the appropriate periods. Ultimately, value is created by cash flow—not accounting profits. The recent corporate financial reporting scandals and the Internet technology bubble are eloquent testimony that cash flow is what counts—not accounting profit, which is amenable to manipulation.
Thinking accounting profit and cash flow are the same thing is a mistake.
Playing to Wall Street
Many CEOs place a great deal of emphasis on understanding and then delivering what Wall Street wants.
The emphasis on meeting Wall Street’s desires is understandable. After all, if Wall Street is dissatisfied with a company’s performance, and with its CEO in particular, this dissatisfaction can result in investors selling the company’s stock. If more people want to sell a stock than buy it, the price inevitably will decline. If the stock declines too much, the board will put pressure upon the CEO to deliver a higher stock price. If the CEO does not deliver the higher stock price, the CEO will be out of a job.
But emphasizing what Wall Street wants is a precarious, even dangerous way to go. It is better to emphasize a sound business strategy. Emphasizing what Wall Street wants is analogous to concentrating on the result only and ignoring how to get the result.
It can be a mistake to put too much emphasis on what Wall Street wants.
Too Much Concentration on the Stock Price
Some companies, especially those with stock prices the market has bid up to high levels, seem to be overly involved with the stock price.
If a company pays too much attention to the stock price, the company may lose focus on what its business is all about. The company may forget how important it is to serve its customers. The company may forget that its stock price is a function of its profitability, future prospects, and the overall soundness of its business. If the company concentrates too much on the stock price, which is a behavioral-influenced assessment of its basic performance, rather than on the factors that lead to good business outcomes, the company may find that its basic business—and subsequently its stock price—suffers.
Concentrating too much on the stock price is a mistake.
Excess Attention to EPS
Some managers and investors put way too much emphasis on EPS, the acronym for
earnings per share.
A handy device for valuing companies in the stock market is the price-earnings multiple, the relationship between the company’s share price and its earnings per share. The stock price would go up as a result of higher earnings and the willingness of the investment community to pay a higher multiple of those earnings. Not surprisingly, many companies seek to maximize reported EPS, and all too many investment analysts concentrate their attention on EPS. What really matters is cash flow. You look need no further than Warren Buffett, the world’s second wealthiest individual and most successful investor, to find a proponent of emphasizing cash flow over EPS.
To think that EPS is more important that cash flow is a mistake.
Playing Earnings Expectations Game
As a company’s stock price is influenced by both its reported and expected earnings, investment analysts understandably go to great lengths to discern what earnings a company is likely to report.
A primary way investment analysts discern a company’s probable future earnings is to ask the chief executive officer what he or she expects their company’s earnings are likely to be for the next quarter and the next year. Once the CEO answers the question about expected earnings, then that expectation becomes controlling, for there is extraordinary pressure on companies to perform at levels equal to expectations. Some companies will go to great lengths in efforts to meet analysts’ earnings expectations, , even compromising primary business strategies and favoring the short-term at the expense of the long-term. Companies may cut out advertising, research and training—or even lay off needed personnel. But ultimately, the consequences of misplaced earnings priorities result in damage to the company.
To set earning targets that then cause the company to compromise its business strategy can be a mistake.
Stay tuned, we will talk more about finance and accounting.