Know your numbers’ is a fundamental precept of business – Bill Gates
Never have truer words been spoken, but do business owners truly know their numbers? If you are a business owner do you know your numbers? I guess the first step in being able to answer the question would be to understand what it means to know your numbers and which numbers we should know.
I often here owners say I have a CPA who provides us a monthly, quarterly, annual (you insert the frequency) financial statement (balance sheet and income statement) and I review that when I receive it, so I’m pretty well up on my numbers. However, if I ask them what their number one indicator is of what sales will be for the next month or how well cash flow will be over the next 60 days their answers are rarely based on any empirical evidence from their business. On top of that, it isn’t anything found on the financial statements anyway. Knowing historical numbers well isn’t the key. Using “gut feel” or non-empirical information also isn’t the key.
The problem with financial statements
The problem with relying on a set of statements that you receive 20-30 days after the period end as your basis for “knowing your numbers” is that it’s all rear-view mirror facing, its historical information. It is like coaching a football team and the only information available to make coaching decisions is the score at the end of each quarter and you don’t get the score until your half-way through the next quarter. An Income Statement is a trailing indicator of performance and it is very difficult to discover ways to make specific improvements when using a trailing indicator. Don’t get me wrong, historical financial information has its place in management and provides useful information, but it is not what is meant by know your numbers.
How numbers help you drive your business
Knowing your numbers has two parts to it, first, you must understand how your finances work. You need to know how the transactions flow through your books and impact those statements you are looking at on a monthly, quarterly and/or annual basis. Do you understand that you can have positive net income but negative cash flow? Do you know how debt service, inventory or fixed asset purchases impact your Income Statement and Cash Flows differently? This basic knowledge of your finances is an important part of knowing your numbers. If you’re looking for some first steps in understanding how transactions flow through your books and impact those statements, keep an eye out on our blog as we dive into more detail in months to come.
The second part of knowing your numbers, the part which I believe is the most important but you can’t have if you don’t have the first part, is knowing what numbers drive your business. I’ve talked about traction before and even offered to give away a free copy in the prior post Vision Driven: A Road-map to Success. Gino Wickman the author of Traction and founder of the EOS Worldwide (EOS = Entrepreneurial Operating System), identifies 6 components of a business: Vision, People, Data, Processes, Issues and Traction. The data component is about the numbers, what are the objective numbers that give you a pulse on where your business is currently and most importantly where it is headed. Gino uses an exercise in determining those key objective numbers wherein you think about the 5 to 15 numbers you would need to have available to you to manage the business if you were completely cut off from your business, he calls this your scorecard. If you were stranded on a deserted island and the only information you received on a weekly basis was a set of numbers, which numbers would tell you the most about how your business was doing and be leading enough that you could make a change in operations to affect the outcome.
Using more than just the financials
Our consulting division works with businesses to help identify and track key predictive indicators in the three major components of a business: sales, operations, and finance. Key Predictive Indicators are those numbers Gino speaks of for your scorecard. They are generally leading indicators that are tied to a behavior or performance which can be tweaked to change the outcome. These are numbers you receive weekly and guide your decision making. An example of this would be if you consider a typical sales process, wherein you have customer calls/contacts to generate customer visits/meetings which result in proposals to the customer which in turn result into accept proposals, i.e. a sale. If you know your numbers, then you may know that for every 3 proposals submitted to a customer 1 gets accepted, therefore to get 1 accepted you must submit 3 proposals. You also know that to be able to present 3 proposals you must have 10 customer visits/meetings and to get 10 customer visits/meetings per week you must have made 30 customer calls/contacts to generate those 10 meetings. Based on all this empirical information that you know about your business you can have on your scorecard a key predictive indicator of number of customer calls made per week. By knowing that number you can predict the number of sales you will have per week and you can adjust performance accordingly to affect the outcome.
In the sales example, you get a true sense of what it means to know your numbers. There’s a complete feedback loop for a proven business process. In the example, not only did you know the predictive indicator you were tracking, but you knew all the empirical information behind it, starting with the customer interaction. If you have operations that can process 10 orders a month then you know you’ll need 300 customer calls/contacts a month to generate that. If you’re going to increase from 10 orders a month to 15, then you know you’ll need 450 customer calls/contacts a month. This may seem overly simple, and perhaps it is since not all customers are the same and not all orders are for the same quantity. However, tracking a sales pipeline based on this principal works. Looking at last month’s income statement and seeing the income line to figure out what you need to do to improve sales just doesn’t work.
This is what Gates meant by “know your numbers”. He went on to expand on that quote to say “you need to gather your business’ data at every step of the way and in every interaction with your customer. With your partners too. Then you need to understand what the data means.”
So do you know your numbers? Are they based on empirical information or just assumptions you are making? Are they predictive in nature? Do you understand what it means? Being able to answer yes to each of those questions is imperative to your success. I’ll conclude this discussion with a quote from Lord Kelvin (William Thomson, 1st Baron Kelvin) who stated the following:
“I often say that when you can measure what you are speaking about, and express it in numbers, you know something about it; but when you cannot measure it, when you cannot express it in numbers, your knowledge is of a meager and unsatisfactory kind: it may be the beginning of knowledge, but you have scarcely, in your thoughts, advanced to the stage of science, whatever the matter may be.”.
Post by Todd Williams.
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