Driving Your Company's Value

7 Reasons Why You Often Need To Use A Professional Consultant

Business owners and management teams often decide they don’t need to use a professional consultant and can do the work themselves.  Think about the seven reasons why you often should make the decision to use a professional consultant.

1. Tyranny of the urgent – you procrastinate and don’t get to it.  As businesses use lean staffs, managers just don’t have the time to take on new time consuming projects.
   
2. Doing it yourself isn’t the best use of your time.   Unless you are experienced in the subject matter, the learning curve to reach the level of expertise desired is not an effective use of your time.
   
3. It’s hard to be objective about your own business.  Like with our own children it is hard to be objective, it is just as hard to be objective about our own businesses.  We find as managers perform analysis of their company’s strengths, weaknesses, opportunities and threats, they underestimate the company’s weaknesses and threats.  With one exercise involving 27partners in separate professional firms, we found the partners believed their firms had no weakness but their competitors had weaknesses.  You be the judge on your abilities to be objective.
   
4. You can’t see the forest for the trees.  When we work with all the nitty-gritty details of our businesses we often lose sight of the big picture.  Bringing in an outsider generally helps in organizing all the facts into an understanding of the business as a whole and how all the trees of parts of the business work together or at least should work together effectively.
   
5. You can’t keep up with all the change in the marketplace.  Your industry and marketplace, like everybody’s, is changing faster than you can keep abreast of with your daily management responsibilities.  When you retain the services of a professional consultant in a particular area, you are gaining the insight and expertise of someone who’s job it is to stay current of all the changes taking place in their area or areas of expertise. 
   
6. You don’t know… what you don’t know.  As managers we normally have a general knowledge about a lot of areas related to our businesses, but lack an in depth knowledge about many of these areas.  When this happens we are not aware of what we don’t know about a particular area.  The professional consultant can bring expertise into the company to fill the holes in management’s overall expertise.
   
7. Lack of exposure to how others do it.  Managers generally have worked for a limited number of companies and some have only worked for one company.  This creates a lack of exposure to processes, methodologies or management techniques other companies use to successfully run their companies or manufacturing processes.  Consultants, by the nature of their work, have the opportunity to gain insight into a large number of companies and generally network with peers who have been into an even greater number of companies.

We acknowledge there are many unqualified or incompetent consultants in the world.  But there are probably even more competent consultants who would love to work with you.  Any qualified consultant will be happy to discuss with you, why they are the right consultant for you.

7 Common Problems With Excel Business Projection Models

We have reviewed many Excel based business or financial projection models over the years. The models were developed for projecting start up operations, cash flow projections to accompany loan applications and for business planning or budgeting.  In reviewing these models and building our own models, we have developed a list of common problems or weaknesses with spreadsheet projection models.

The list includes:

1.  Incomplete models – the models often only have income statements or income statements and balance sheets.  Projection models should include all three financial statements: income statement, balance sheet and cash flow statement.  The cash flow statement is the statement that ties the other two together and ensures that you do not have interlinking statement errors.

2.  Failure to interlink the financial statements – the models are often prepared independently and as a result often have errors and can not be reconciled.  This is the result of not being able to see the balancing effect of the balance sheet.

3.  Hard coded assumptions – the models have the assumptions hard coded and do not use relational formulas and input areas in the model.  As a result, it is impossible to quickly play what if scenarios with volume and pricing differentials.

4.  Long formulas – the models utilize very long formulas which are difficult to interpret.  The key is to use calculation areas which break the formulas into segments and allow a reviewer or other user to quickly see how the developer arrived at the final number used in the projection.  Even more importantly, it simplifies the debugging process (locating errors).

The only exception to the long formula rule would be for if then statements and look up formulas. 

5.  Lack of an input area – the models bury key assumptions in the formulas throughout the model.  Use of an input area will make it easier for you, the lender or the investor to see the assumptions together in a summary section.  Failure to use input areas with all the related assumptions together minimizes the chance of failing to change all the related assumptions in the models when making changes to an assumption or playing “what if” scenarios.

6.  Layout is hard to Navigate – the model is not organized properly and is built on one page or worksheet (like the original spreadsheets required before models had multiple pages).  Using multiple worksheets allows the use of identifying worksheet labels and aids in the development of a separate table of contents worksheet.

7.  Print formats are not set up – the model does not have the print areas and page breaks set up for easy printing.  Without the proper printing setups the user will/may have a difficult time following the model on the various continuing pages with inappropriate print breaks in the middle of sections.

This list relates to the actual model and how it is built within Excel or other spreadsheet programs.  Later posts will deal with the common problems with the assumptions, emphasis, supporting the assumptions and the presentation format.

Avoiding the above list of mistakes will go a long way to convincing your banker, potential investor, or your management team that the model is reliable and that you appropriately understand the model building / financial projecting process.

Factors to Consider in Buy-Sell Agreements

Some factors to consider in forming a buy-sell agreement for your business:

1) Restrictions based on the business entity type- some types of business entities have restrictions related to the size or characteristics of the ownership group.  For example, S-corporations have restrictions on the number of shareholders.  A buy-sell agreement might require the repurchase of shares if the corporation would otherwise lose its S status.

2) Distribution of ownership- your agreement might specify different provisions for the buy out of a majority (controlling) interest versus a minority (non-controlling) interest.

3) Funding options- the agreement may or may not specify how a repurchase will be funded.  If the repurchase will be funded using company assets, restrictions might be put in place so as not to hurt the financial strength of the business.  For example, the agreement could specify that funds used to repurchase shares may not exceed a certain percentage in net income or cash flow in a given period.

These are just some of the many considerations to think about when putting a buy-sell agreement in place.  The more situations and considerations that can be contemplated at the formation stage, the more the agreement can be crafted to provide the appropriate guidance when needed.

Growth and Productivity’s Five Dimensions of Value

Increasing a company’s return on equity requires that managers make all strategic decisions focusing on one or more of the Five Dimensions of Value. Every decision made should include the question of whether the action will accomplish the goals of one or more of the Five Dimensions of Value, which are related to growth and productivity within a company.

Growth Dimension will focus on —

• Increased market share using a constant capital investment.
• Invested capital in projects that yield a higher economic return, such as a new product line.

Productivity Dimension will focus on —

• Increased profits through operating efficiencies while using a constant capital structure.
• Maintained profits while using less capital through improved asset utilization (turnover).
• Maintained or improved profits while lowering the weighted average cost of capital (WACC).

Drilling Down the Dimensions of Value

Increasing market share using a constant capital investment. This means that long-term, consistent growth in profits can be accomplished only by expanding the company’s market share and therefore its revenues. The growth in the size of the marketplace may increase revenues temporarily without the company’s obtaining a larger market share, but eventually most markets flatten or decline in size due to many factors such as new technology or changes in consumers’ buying habits. Management must continually focus its efforts on increasing market share.

Investing capital in projects that yield a higher economic return. Consider a new product line: This simply means that a higher profit margin will increase a company’s free cash flow. An investment in a new, higher-margin product line will increase cash flow in two ways. First, each dollar of new sales will provide more free cash flow than the older product line. Second, new products will produce additional revenue from an expanded product line reaching a larger market.

Increasing profit through operating efficiencies while using a constant capital structure. This recognizes that profits and the related free cash flow can be increased through operating efficiencies, which lower operating costs without requiring investment in new assets. For example, companies can use overtime or a second shift without significant capital expenditure, as opposed to building a new factory or a factory addition.

Maintaining consistent profits while using less capital through improved asset utilization. This means that increased efficiencies will lower capital invested in the company and thus create excess assets, which can be distributed to the stockholders either directly or through cash generated by their liquidation. This additional free cash flow can be invested in other activities that will increase the shareholders’ total personal returns and total personal net worth without decreasing the value of the company.

Maintaining or improving profit while lowering the weighted average cost of capital (WACC). This recognizes that a company may not be using its available debt (other people’s money) appropriately.  Cost of capital is the combination of the return that the company is expected to pay its lenders and investors in return for the debt and equity capital it needs to operate the business.  Many private companies use little debt, perhaps for fear of the additional business/financial risk. This has the effect of establishing the company’s expected returns — or hurdle rate — at the higher equity level. This results in a higher WACC in the denominator, which lowers value. Utilizing appropriate debt levels that have interest rates lower than the equity return, results in lowering the weighted average of debt and equity (WACC).

A lower WACC in the denominator increases value. This tactic works in conjunction with the fourth dimension —increased asset utilization — to increase free cash flow. This extra money can be distributed to the stockholders or used to reduce the need for additional cash investments from the stockholders.

Summary

Focusing on value creation is a management mindset that must permeate every decision made by management.  Too often management focuses on one result of a decision but does not take a holistic view of the decision’s total affect on the business and its value.  By using the five dimensions of value as an decision making framework management can understand each decisions affect on the company’s value.

Do You Want To Be In Business With Your Partner's Spouse?

I'm sure the headline of this posting is an attention grabber for a lot of you. I can hear many of you saying, "Don't get me wrong, he/she is a great person to visit with at a party, but I'm not interested in running a business with them." Why do I even bring up this hypothetical scenario? Because it isn't so hypothetical. We've all lost people close to us before we were ready to be without them. This happens every day in business situations. The contingency plans that you and your fellow owner never quite got around to talking about or formalizing can leave the surviving business owner in a tough situation. In many cases, that situation involves having a new co-owner or co-owners: your former partner's spouse and/or children. A buy/sell agreement between owners can help you continue running the business the way you and your partner intend for it to be run in the absence of the other. The agreement simply says what will happen with an owner's interest upon their death, disability, divorce or other situation that removes them from the business. Think of it as a "last will and testament for your business". Sometimes these situations are covered by language in a partnership agreement or shareholders' agreement. But in many cases, the language is unclear and doesn't provide the guidance needed to execute the desired transaction. This can lead to disputes and legal proceedings- precisely what most people who put these types of agreements in place are trying to avoid.

We believe very strongly in buy/sell agreements, and will have postings from time to time with considerations and suggestions for how to draft an effective buy/sell agreement.

The essential skills of leadership

It's lonely at the top. While running your own company has its merits...you get to call the shots...it also has its drawbacks. One is that as the leader of the organization you need to do the work of leadership. Your job is to set the direction, motivate the troops, and define the vision for the organization. It doesn't mean you can't include your team in helping to set that vision, but you are the ultimate decision-maker. After all is said and done, you need to make the tough choices.

In his book, E-Myth Mastery, Michael Gerber identifies the essential skills of leadership as:
1) Concentration - focusing your attention on the work of leadership, especially when you are confronted with the choice of doing the technical work of the business or focusing on the longterm direction of the organization.Remind yourself that you are the "Leader" and you need to do the work of a Leader. This is the skill of how to work on your organization.

2) Discrimination - learning how to choose between alternative courses of action.This is the skill of where to focus your attention. According to Gerber, The most important things you as a leader should focus on are the vision of the enterprise, its substance and how it's communicated; the business model, the unique way your business works that sets it apart from the competition; the consciousness of the organization (often called company culture), how people are treated, compensated and how work gets done, which translates into the look and feel of the organization; and the end game, when and what is expected to happen and the strategies needed to take you from today to that future outcome.

3) Organization - defining the organizational structure of the enterprise and the relationships between the various departments or divisions. You have to set up the proper structure for collaboration to ensure everyone is working together to achieve the same outcome, your future vision.

4) Innovation - continually improving on everything you do in the enterprise. This means staying abreast of changes in your external environment and making the necessary adjustments to create new products, deliver new services to your customers, and stay competitive.

5) Communication - how you communicate what you expect of your people is, how you listen to their understanding, and ensuring that your communication is clear, compelling and inspirational. This is the skill through which you motivate your staff to excellence.