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If You Can Measure It, You Can Manage It

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01/06/2014

Do You Know the Financial State of Your Company?

By Michael K. Farmer, CPA, CHBC

Most of the clients who I work with use an electronic bookkeeping system, such as QuickBooks, to keep track of their finances. The majority of those do not do much beyond entering the deposits and checks in the checkbook, while others reconcile the balance. They have created a very powerful database and choose to ignore it when making financial decisions. This would be like working on your car without using any type of diagnostic tool to identify what the real problem is. Being mechanically inept, I would take it to my mechanic, who would scan for diagnostic codes and then compare those codes to his database. Without the correct diagnosis, he could be working on the wrong issue. The same is true with your financial data. If you do not look at correct data to make a decision, you could end up working on the wrong issue. I will discuss some of the reports and tools that you should be looking at or giving to your clients to help them manage their businesses.

The first report in a set of financial statements is the balance sheet. The balance sheet reports assets, liabilities, and equity. Assets are those things which you own: some examples would be bank accounts, accounts receivable, fixed assets, or notes receivable. All of these items you either have in your possession or you have a right to them. Liabilities are those things which you owe to others. They could include accounts payable, payroll taxes payable, or bank loans. Finally, equity is the ownership in the company. The basic formula is assets = liabilities + equity, hence the name balance sheet. The balance sheet is a snapshot in time. It will tell you that, as of 12/31/12, these are all of your balances.

As a business owner or manager, you should look at the balance sheet to see what your cash balance is, if the payroll liabilities are being paid, and how the balances compare to previous periods to assess which items are increasing or decreasing. Another report that comes from the balance sheet accounts is the accounts receivable aging. This report will show the accounts receivable split up into time buckets. For instance, the report could separate the accounts into 0–30 days, 31–60 days, 61–90 days, 91–120 days, or 120+ days old. If there are amounts in the "120+ day" column, it is important to consider what is being done to collect on those. You can also run this report by insurance company to see if you are having problems with one company.

The statement most people focus on is the income statement. This report shows the amount of income less expenses to arrive at net income. This is the bottom line of the business. A good statement would have the following columns: current month, last year current month, year to date, and last year to date. This way you can compare the current and year to date results with the same results from previous years. By reviewing it this way, it will help you identify any trends. For instance, in the following table, the revenue has dropped while wages have increased. Once you know that, the next questions are "Why?" and "How do we manage the line better?"
 

The income statement is not always a true picture of how you are spending your money. You might have a bank loan you are paying. The payments on the principle go against the bank loan, which is reported on the balance sheet but not the income statements. Therefore, your income statement could show that you are making money despite your depleting cash balance.

The third statement is the statement of cash flow. This statement contains three sections. The first section is cash flow from operations which will show the amount of cash either generated or used from running your business. If this area is continually negative, meaning the business is not generating enough cash to run the operations, the business is probably in trouble. The next section is cash flow for investing, which lists items that you have purchased but which are not included in operations. It could include fixed assets or investing in other companies. The last section is cash flow from financing, which reports loan activity. A healthy company might have cash flow from operations positive, investing negative, and financing negative, as in the example below. This would tell me the company is making money and using the cash to invest in new equipment while paying down debt. Not all companies operate this way, so by looking at this report monthly you should be able to see trends and ask why and how to better manage the process.
 

Those are the basic financial statements. Looking at all three, you should be able to get a good idea of the health of a company. There are also a variety of key performance indicators (KPIs), which should be carefully studied. KPIs are those items that are vital to business profitability. They could include factors such as days of revenue, collection percentage, number of patient visits, number of new patients, and number of a certain CPT code. A computer program probably will not calculate these, so you may have to set up a simple spreadsheet that calculates them.

The financial program you are using should not just be to make the accountant's job easier at tax time. It should be used as a tool to help you manage the business and identify problems or opportunities. If you are not using the information for this, then you are missing out. As the old saying goes, "If you can measure it, you can manage it." Financial statements should be the tool to help you measure and manage your business


Michael Farmer, CPA, CHBC, has been a CPA working with medical clients since 1997. He helps his clients with their accounting, tax, and business needs. In 2010, he earned his healthcare business consultant certification. Michael resides in Muskegon Michigan, where he is a partner in a CPA firm.

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