Are you picking up early warning signals about the health of your business? That’s what RADAR (RAdio Detection And Ranging) does. It picks up signals long before something is close enough to do harm. If no one is paying attention, those early warning signals don’t do any good. Further, one needs to be able to interpret the difference between signals to determine if they are seeing a single bird, a large flock of birds, or an incoming enemy aircraft. The purpose of RADAR is to allow sufficient time for people to assess a threat level and take appropriate action.
Business is similar. There are early warning signals that something is amiss but unless someone is paying attention they don’t matter. I firmly believe that if people are paying attention they will get early warning signals and can use them as a way to minimize long term negative consequences (or possibly pick up on something early enough to actually benefit from it). One place that you might find an early warning is on the financial statements. Unfortunately, I have seen businesses ignore not only minor changes to the financial statements but fairly significant ones for months on end solely because no one was on alert.
Looking for both subtle and not so subtle changes on financial statements is one of the reasons I insist upon either a monthly financial review meeting or written monthly management discussion and analysis (sometimes both) for my clients. I want to make sure that we see subtle changes in the business early so that we have time to do something about them. Ideally there is a dialogue about financial results with color commentary being added by non-financial folks who can help shed light on the underling operational activities that are driving the numbers. Below are a few items to which I pay attention (of course, this is just a small sample):
- Expense creep
- Margin erosion
- Shifts in working capital (outside of normal timing variation)
- Unusual volatility
- Product mix shifts
- Revenue expenses or profits not in line with expectations
Not only can discussing financial results help everyone better understand the true health of the business, at times it can result in the realization that the financial results are incorrect. Accounting is based upon an understanding of the underlying events and transactions. If that understanding is wrong, then so too are the financial statements. The sooner any error is identified and corrected, the better.
But financial statements are by no means the only place to look for early warning sings. In fact, financial statements are actually lagging indicators as it usually takes some time for issues to manifest themselves on the company’s books. Your RADAR should look more broadly. Below are a few more examples:
- Customer complaints
- Lower average spending by customers
- Longer production, delivery or service lead times
- Employee dissatisfaction or Increased absenteeism
- Lower traffic in a retail environment
- Declining quality statistics and / or rework
Are you looking for the early warning signals of a potential threat?
Special thanks to Christopher Homza for this month’s topic.
If your business could benefit from fractional CFO services, I would welcome the chance to speak with you. Please give me a call at (314) 863-6637 or send an email to [email protected]
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