Do you know which financial reports you should be reviewing monthly, weekly, and even daily? Do you know how to run projections and forecasts of your business financials? We chat with Raynor Large from the Maine SBDC on how you can get a handle on this critical element of your business to make more informed decisions.
Rich: Prior to joining the SBDC, today’s guest worked for a small, local firm and used financial modeling to help small business owners through a wide variety of situations; transitions of ownership, both internal and external entrepreneurial startups, bankruptcy, such as restructuring and liquidation, court appointed receiverships, explosive growth opportunities, acquisitions, refinancing, turnaround, and more. He also maintained an active real estate license, practicing commercial real estate and business brokerage in the state of Maine. Today, we’re going to explore what business owners need to understand about their own financials with Raynor Large. Raynor, welcome to the program.
Raynor: Thanks for being here.
Rich: Now, it sounds like you’ve always been interested in financials. Is that what you went to school for, or did you just find yourself drawn into it later?
Raynor: No, actually I went to school for psychology, and the first job that I got out of college was with a small tech firm that was real estate adjacent in Philadelphia right when the real estate market crashed in, ’08 and ‘09. So we went from just about 80 employees to around 40. And in that time, I had the rther unique opportunity for someone right out of college to really wear a lot of different hats. I got to work in marketing, and we did some mergers and acquisitions. I did a little bit of finance, but what I really learned about was that troubled asset management and turnaround situation. And I took that to the job, that I eventually took here in Maine, where I got to wear all of those different hats and really focused on the turnaround side. And that’s where I gained an appreciation for the financial.
My opinion coming out of college was that who needs the financials, right? That’s the, that’s what you have a bookkeeper and accountant for. But as, as I gained more experience and learned about different financial models inside different many different operating companies the one kind of unifying factor was that financial statement. So, the more I was able to understand that the more I could really leverage that knowledge.
Rich: Awesome. I’m glad I asked, because moment of transparency, I have never liked financials, even though I’ve been in business for 24 years. And it was only maybe the last couple years that I stopped being willfully ignorant of my own financials. So when you hear stories like that, when you hear owners who are like, “Oh, well, that’s what I have a bookkeeper for.” What’s your message to those leaders?
Raynor: No, absolutely. I’ve never talked to a business owner that got into business because they really liked Excel and wanted to practice. So everybody that I work with, everybody that you’ve worked with and talked to and interviewed, you get into business because you’re great at the operations. You like the people, you like what you do, you want to practice that and perfect that. And I respect that and I want to encourage you and support you through that process. That’s part of the reason I became the advisor that I am.
But you know, the foundational aspects of all of those things, kind of the key to being able to provide those services and do what you want to do, is that financial knowledge. I’ve met many successful business owners who have no idea what they’re doing financially. But every single one that I’ve met that has failed, or has been in bankruptcy, or that is trying to turn around, does not have that foundational knowledge. So I would say that it’s possible to succeed without it, but it’s almost certain to fail if you do not have it.
And the reason for that, I would point out three things that I think really boils down why the financials are so key. One is external, right? So it’s the common language of professionals. So if you ever want to work with your tax accountant and figure out how to reduce your tax burden, or if you ever want to work with an attorney or a business broker and figure out how to transfer your business, sell your business, or even transfer it internally to a son or a daughter or a key employee, all of those things really require a basic understanding of the financials and be able to speak that language to present the opportunity and understand, okay, how do I make those changes? How do I present that knowledge in a way that can be understood by those other professionals?
So first and foremost, that understanding of those external factors. How do I communicate the knowledge that I have in a way that can be understood by a potential investor in commercial bank, an attorney, or an accountant? The second is internal. So as a business owner, you are answerable to know them. And that’s part of the draw of being a business owner. You get to do whatever you want. You wake up when you want, you do your work when you want to do it, and you’re only responsible to yourself. Now that’s fun and exhilarating. It can also be challenging, right? So the financial model, in my eyes, provides you two opportunities to check in on yourself and hold yourself accountable to be moving in the direction you want to move in.
The first way to do that most simply is to put together some financial projections month by month, and then compare your actual performance to where you want it to be. And that’s something you can do right in QuickBooks. You can put it together and it takes about five minutes to run that report every month. And you can just check, line by line. Okay, am I where I expected it to be, and if not, why not? And that’s the key part, right? If you’re missing something, if there’s an expense that’s increasing or your cost of goods margins going up, or your revenue is not quite where you want to be, do you want to know about that month by month, or do you want to know about that when you bounce your first check?
So that ability to double-check, keep your finger on the pulse of the business. Like I said, it only takes a couple of moments once you get that report in QuickBooks, and you can run it and if you’re doing what you’re doing and you’re beating your budget, great. Put the books away and get back to doing what you like to do. But if you’re missing something, it’s better to know about that now.
And then the other benchmark, just as simply as this year’s performance compared to last year. And you can run that report just like the other report when you just say, okay, am I doing better than I did last year at this time? And am I doing better than I expected to be? And again, if you can say ‘yes’ to both of those things and run down the income statement, great. Get back to doing what you want to do. And if not, figure out that solution. Address that issue before it becomes a bigger hole.
Rich: That’s a great roundup. And as I’m listening to you, I’m just thinking about what I said to you before we started recording, which is like the purpose of this podcast in part is all the information I wish I had when I was first starting out. Like I said, I’ve been in business for 24 years, and probably the first 20 to 22 I paid as little attention to my financials as I could get away with. I just kept my head down and I worked as hard as I could. And now that I’ve started to pay attention to my finances, it’s not that I know I ton, but that I understand the basics, everything’s become so much easier. Like I know what direction I need to go in. I know when to put my foot on the gas, I know when to take it off the gas and focus on something else. And it just, if there’s people out there that are working their fingers to the bone because they want the “freedom” of ownership and you aren’t paying attention to your financials, I would say that’s probably the number one thing you should change. Because that was my experience. I was really good at sales and marketing. I worked really hard, kept the business afloat without knowing much for 20 years or whatever it was. But then when I started paying attention to the financials, it just helped right the ship in such a dramatic fashion.
Raynor: Yeah. That’s a great point, Rich. And I’d like to just take that kind of a step further. So looking at that internal focus on the financials and the use of it, I talked about using it as benchmarks and making sure you’re on the right track. That idea of, as a business owner, you make hundreds of decisions a day a week, and there’s no real apples to apples comparison except for the financials. Right? All of those decisions have costs associated with them and a hopeful return on that cost, an outcome that you intend. If you can understand those two things that both the cost and the return and comparing those decisions you’re making and making sure you’re making the right decisions for you and your business. It’s so critical.
So, the most finite resource you have is your time as a business owner. And the second one is whatever’s in your bank account. And those two things, if you can lay those and say, okay, should I hire a new employee or should I buy this piece of equipment, should I outsource my manufacturing or rent a new space of real estate or at a second location? All of those things boil down to, what is the cost of them and what is the intended return. If you can understand those in simple financial times, it makes your decision process much easier.
Rich: So, I feel like you may have just answered this question, but maybe there’s more to it as well. You mentioned earlier the foundational parts of your finances. What do you think if somebody is finally ready to start paying more attention to their financials, what are those foundational elements that they should be paying attention to daily, weekly, monthly?
Raynor: Yeah, absolutely. So just to a brief primer, the first financial statement that you’re going to become accustomed to, or are already accustomed to, is the income statement. Which is also called the ‘profit and loss’. But that’s basically, it says how are you using your assets to generate revenue in a specific period of time? Usually it’s a month or a year. And if you always start with your revenue is your top, your total sales for that period of time. And then your, your costs are broken down into two ways, right? So, you have your cost of goods, which are your direct costs associated with that revenue. So, for a restaurant, it would be the, are your ingredients and your direct labor for manufacturing, it’s very similar. It’s your parts, your raw ingredients or raw manufacturing parts, and then that floor labor. And then you have your overhead costs, right? So the idea being your cost of goods is usually determined as a percent of revenue. Basically saying, if you sell a product for a dollar and it takes you 50 cents to make that product, then it’s 50% of your revenue goes to that cost of goods.
And you want to have that in mind too, because as your, as your revenue goes up, those direct costs will go up as well. Right? So that margin is what you’re really monitoring there. If it creeps from 50 cents to 51 cents, then you get to keep one less cent to put toward your own overhead. Now your overhead costs are those that remain the same, whether or not you’re selling any products. That’s your rent, your insurance and professional fees, advertising and marketing would all fall into that overhead expense. And the reason your costs are broken out into those two different things and why it’s so important to understand both the cost of goods margin and your overhead is because using those two things you can back into what’s called your ‘break even’ for your revenue, right? Because if you know your overhead is $100,000 for the year, and your cost of goods margin is 50%. Then it’s a simple mathematical calculation to just say, okay, if I keep 50 cents of every dollar I make to put toward my overhead, and my overhead is $100,000, I need to generate at least $200,000 in revenue to cover my cost of goods, to create that $200,000 in product and my $100,000 in revenue. That gets made a breakeven point, right?
So from that, as a business owner, you can back into weekly sales goals, daily sales goals, monthly sales goals, whatever is most useful for you to say, okay, what do I need to do to cover my costs? And you can take that a step further. If you have to put $10,000 to the bottom line every month for principal and debt payments or for equity draw or to reinvest in your capital, it’s the same calculation you just used. You start with $10,000 instead of zero, and you back into what is my weekly sales goal, what is my monthly sales goal. Put on a poster on the wall in the break room and say, “Hey, are we winning or are we losing?” Am I doing what I need to do to incentivize my employees to hit that goal, or am I investing in my marketing appropriately so that I’m hitting that goal. Right?
So all of those things, again, going back to what we were talking about before. There’s a cost associated with that and there’s the return. So as long as you’re measuring that, it becomes much easier to say, okay, is the cost associated with this return reasonable? Am I getting what I need to out of this advertising investment, out of this employee, out of this a new piece of manufacturing? Every decision you make, it boils down to that. And as long as this is my daily goal, this is what I need to accomplish. That’s great. That’s your focus, right? That’s what enables you to do everything that you want to do as a business owner right here. Giving back socially your educational opportunities, your just being self-employed rather than working for someone else. Whatever it is that motivates you, it hinges on the ability to carry that cost, hit your breakeven to exceed that and grow.
So, did I answer your question?
Rich: I think that was great. It’s still, for those of us who are just ramping up on the financial side, it’s still sometimes a lot to gather. And one of the things that I’ve noticed is different financial people may come at it from a different angle, but I think that that’s very helpful in the way that you’ve laid it out.
Now, the next thing I want to talk about is basically predicting the future. Creating projections. So what is it as we sit down, and right now as we’re talking, we’ve just entered Q4 here in 2021, thinking about the next year coming. Why are projections so valuable?
Raynor: That’s a good question. Projections are valuable because you need to have a map to get to where you’re going. If you just get in the car and start driving, you never know where you’ll end up. If you, these days, we all just plug it into our cell phones and trust for the best. But at least you have a destination in mind and you can look and see, okay, you take this route to get there. It’s the same exact concept with projections.
Everything else in a business is responsive, is looking backwards, right? Your bank account is what you’ve done to date. It has nothing to do with your future. Projections allow you to lift your head up, get in the driver’s seat and say, okay, where am I taking this business? If my goal is a year from now, three years from now, five years from now, how do I get from where I am to where I’m going? And how do I do so in a way that is financially viable? Because a lot of those decisions you’re making, those goals you have in mind, do have a financial element. Is it buying the real estate that you’re currently renting? Is it adding a second location or another product line? Is it retirement? Is it simply growing your business to a point where you can sell it for a reasonable return and retire quietly and peacefully? Or start another venture. Plenty of people do that. But all of those have that base financial element of saying, okay, I need to generate X amount of money to take that step. And you can’t simply go from where you are to where you want to be. Otherwise, it wouldn’t be a goal, there wouldn’t be a process of trying to get there. And so breaking that goal down into annual or monthly increments, if I’m going to be there in three years or five years, where do I need to be next month? That’s what you can control. That’s what you can work towards. And that’s a reasonable expectation of, I’m here next month and I’m here in six months and I’m there in a year. Then I’m a third of the way to where my goals were. I had that second product line. I need to identify a marketing firm and I need to take those steps necessary to get.
Understanding where that falls in your timeline is so critical. You have to have a certain amount in your bank account to invest in that research and development. Do you have to set some aside for 20% down on a new piece of property? Those things are all goals that you can start working towards now. But if you don’t understand that process, you’re just going to get wherever you’re going. And wherever you’re going is whatever’s in the bank account every day, right? So if you’re tired of water and you want to look forward and identify reasonable goals and how to get to where you want to be, I would say, maybe there’s other ways, but I haven’t come across other than financial projections.
Rich: All right. So if we’re going to try and project out, forecast our future, what are some of the things we can do as we look to the coming year so that we can come up with some reasonable projections about where we want to go and what is?
Raynor: Absolutely. Actually, soft plug here, but I am teaching a four-part course on this that’s free. If you want to go to the SBDC website and sign up, love to have any of the listeners at that.
Rich: We’ll absolutely link to that in the show notes, by the way.
Raynor: Thank you. Thank you. But yeah, it’s a great question. How do you put the other projections? And I would say you start with this story, right? So historic performance is always the greatest indicator of future performance. It’s the same concept as momentum. Without outside forces acting on your momentum, you’re going to continue in the same direction. So really, looking back is the best way to start looking forward. So okay, if my office expenses were $600 last year and $500 the year before and $700 a year before that, best guess it’s going to be around $600 this coming year. So that’s coming. So that’s just a historic trend align. You can break it down by class or by line item in your income statement.
The second way to project forward is contractual. That’s the easiest, right? You know what your rent is going to be, you know what your insurance is? Very straightforward. You just take that, and you plug it in.
The third way is relational. So, a projection that’s relational is talking about that cost of goods. That kind of percent of your revenue. And if it’s related to your revenue or payroll taxes would be related to your payroll. So just a quick example. If your payroll taxes last year were 19% of your payroll, and your projected payroll is $100,000, you know your payroll taxes are going to be $19,000, right? If you had two employees and now it’s $150,000, then it’s going to be $29,000. So it’s just related to that primary expense or that primary revenue, one cost of goods. You’re a restaurant and your ingredient costs were 30% of your revenue last year. And you’re projecting to do a million dollars in revenue. Okay. I know I’m going to spend about $300,000 on my ingredients in the coming year. And if it’s seasonal, then my cost of goods will be seasonal as well. So, it’s related to that revenue.
Then you get to revenue. And revenue is the hardest thing to project, because that’s always the ‘what if’ question. A lot of people are looking back and saying, well, I can’t really use historic numbers because the last 18 months, cause then, way out of whack or they’re, they’re not really related to my business. It’s primarily because of COVID. Right. So we can look at that and we can say, okay, if we use 2019 as a benchmark and we say, okay, 2019 pre COVID, you’re a million dollars. You dropped the $700,000 again, using that month to month, we can say. For the month of September, the last month, were you closer to 2020 September for 2019 September? Are you recovering from that COVID period? So we can start using those benchmarks historically to look forward and say, okay if we’re 70% of the way recovered from COVID, we can use that. We can say 70% of 2019, that’s our expected performance. So that’s, that’s the groundwork for projections. That’s where you lay the past. Momentum-wise, is it okay if I don’t change anything? If I just keep doing what I’m doing, this is where I’m going. And this is where it gets fun for me as a business owner too. Because then you’re looking at, you’re saying, okay, if, if this is where I am at the end of 20, 22, is that where I want to, and then you can start making changes, then you can say, okay, what if I do this? What if I incurred this cost with this intended? If I invest in my marketing and my intended outcome is to raise my revenue by 20%, what does that look like? How does that actually play out my cost of goods? The cost of the advertising? And what does it look like January 2022, February 2022.
And that’s where it becomes important with projections because you’re investing $20,000 in your advertising and in January, you’ve seen no return on that advertising. Then you don’t wait till the end of the year and you say, wow, where did that $20,000 go, it didn’t change anything to my top line. So that measuring that double checking that confirming that the, the cost you’re incurring is having the intended result. That’s where you can save yourself so much trouble in headache and tweak the model and change, maybe it’s you’re advertising. And I’ll leave it to Rich to do the advertising stuff. But you do change the wording in that, or you change the platform, or do you make it more of a risk aversion rather than a benefit. How do you present that advertising to get the intended consequences for everything in your business if you’re adding other employees? Are they getting the sales that you need out of them? If you’re investing in that piece of capital, are you using it to justify? So everything boils down to you put the projections together, you add the changes that you intend to have on as an overlap to say, okay, I’m not necessarily going in the direction I want to, but if I make these changes, then the end of my 2022 is where I want it to go. And then you just go back and you say, okay, every month now, until then I’m changing that I’m pushing myself. I’m figuring out is it working? Are those changes having that intended effect? And if not, why not? What do I need to do?
Rich: So if we’re just getting started with this process, we haven’t really invested our time here. I guess one question I would have is how often should we be checking in with these numbers to make sure that we’re still on course and how often do we update those numbers? Like if we see, obviously coming off of COVID and just the other day I was in a lobster shack and it said something about the cost of lobster these days and why the prices were so high. Obviously, that’s not something they had planned for. Is this something that like once a month, once a quarter, once a week, we should be in there and checking on the numbers, but also maybe adjusting the forecast or the projections for the rest of your based on that? Like, what is the right amount of check-ins we should be doing?
Raynor: That’s a great question. I would say it likely depends on your industry and how active your industry is in changing, and how tight your margins are.
Rich: Why does how tight your margins are make a difference? And to what degree does it? Like, are you saying that if my margins are very tight, I need to be in there more often because even a tiny little change can make a huge difference?
Raynor: Exactly. Yeah. Yep. So, just for example, most restaurants operate on a 5% net income profit margin. You’re putting 5 cents of every dollar in the bottom line As a restaurant. That’s pretty average. It’s also a hiccup away from disaster. So if you know your primary ingredient doubles in cost and you don’t react to it for two months or three months, that could be all of your profit for the entire year drained before you even noticed.
So, I had a lumber retailer that just changed their pricing this past year, and they’re now checking their pricing every single week against their cost of goods. And they just closed the most profitable year they’ve ever had because they’re monitoring that so close. So if you’re in a service industry and there’s more flexibility, you don’t necessarily need to monitor as much and you can absorb a little bit of change here and there. You don’t have 80% of every dollar you make going out the door with your cost of goods. Most business owners, I would say, check-in at least a month against those two reports, against prior year performance, and against their budgeted performance. Monthly is good because it allows for some flexibility week to week, and you usually close the books every month so you reconcile against your bank accounts so you know those numbers are solid. That’s a kind of a good way to say, okay, this is what it is, how close is it? It wasn’t one sale that kind of threw off all the numbers for the whole period. And you can adjust accordingly.
Now that said. It’s also dependent on who you’re using these numbers for. So if you’re sales intensive and you have a number of sales agents, you want to monitor that weekly, maybe daily, have a sales goal or something for those employees to really say, okay, your performance is linked to this metric. Let’s show that, let’s put that on the big board. Let’s promote that and really check in regularly. The private does what the Sergeant checks, right? So if you’re the business owner and you want to hold your employees accountable, having some metric that’s easily measurable and is related to whatever performance you’re trying to encourage is really key. And waiting for a month monitor that, you might not get the immediate kind of carrot and stick that you’re looking for. Whereas, an employee checking, checking an employee’s performance daily or weekly is much easier to keep that in the forefront of their mind. So, sorry, there’s not really a set answer, but it’s depending on what do you want to get out of it? How critical is it for running your business? And what’s your capacity as a business owner?
Rich: Yeah. For me, I found that once a month actually works for me. Because more often than not – and in part because we’re accrual – so a lot of the parts of the business we have to wait, how much of a project will be completed before we can recognize that revenue. So looking at it every day, it can be very misleading at times, where a month is a good chunk of time for me to get a better picture of that. But not to let things go so far that things start falling behind and that I’m caught off guard.
I want to just to wrap up with, you mentioned profit margins for restaurant being about 5%. I recently discovered what agency’s profit margins are. Obviously, there’s depending on the industry profit margin, it can be a lot. But I would still think that most businesses would want to know how they are competing with other people in their industry from this profit margin. Is there a place that businesses can go to find this? I just happened to do a Google search and I found an industry report that talked about it. But is there a place online that generally will have those kinds of numbers for business?
Raynor: It varies industry to industry, and Google’s a great tool to use. You could also ask your accountant, they could probably pull some information based on your industry code, or ask the SBDC advisor you work with. We have some access to various databases we could research for you. So, I think industry is a great way to benchmark it, but historic performance is your best. Because that takes into account your geographic region, your ideal customer base, everything that you’ve done in the past. Can you do it better? That’s the goal. So as long as you’re monitoring your own margin and understanding, okay, how do I tweak this? How do I improve my efficiency? How do I keep one more cent per dollar that I make to my bottom-line? that kind of problem is a good problem. Absolutely.
Rich: Raynor, this has been great. I really appreciate your time. We ask everybody who comes on the show this question, so I want to throw it to you. What one thing would you change if you could to improve the business ecosystem here in Maine?
Raynor: And this is funny because you gave me like a two-month head start on this, and I’ve been thinking about it, trying to come up with something creative that nobody else has, but I’m sure it’s been talked about. For me, I felt that kind of anecdotally, because Maine has so many amazing resources. And I’m humbled to be a part of the SBDC and understand the different resources that Maine has to offer for entrepreneurs and aspiring entrepreneurs. But one thing that I lacked growing up was an understanding of how easy it would be to be an entrepreneur. I have run my own business and I’ve done that, but it was never presented as an option. So, the only thing that I could see as possibly benefiting Maine as an economy, is really teaching in high school that you don’t have to be Jeff Bezos or Mark Zuckerberg to be an entrepreneur. You can be an entrepreneur just by selling a product or selling a service. If that’s as simple as it is. And then understanding those basics and expounding upon them is easy, especially with the resources out there. Take that step, take that punch. We need more innovation, and it doesn’t take world changing technology to be innovative. Understanding what’s needed in your area and offering it, providing it.
Rich: Awesome, Raynor. This has been great. If people want to check you out online, learn more, where can we send them?
Raynor: Yeah. Mainesbdc.org is who I work for, the Small Business Development Center here in Maine. There’s about 16 or 17 fully employed advisors throughout the state. We’re federally state and locally funded, so we’re a free organization, free service for you. And we help anybody who needs help. Happy to just be a sounding board. Most of our clients are a little more long-term, I think our average client time is around six hours up from about four hours during COVID, when a lot of people were just asking how to access federal grants and kind of one-off questions. But in our sweet spot is that longer term. We’re here one-on-one, we like to walk you through different problems and ticker them out with you and see what we can do to help you.
Rich: Raynor, thank you very much. Really enjoyed our conversation. Just great advice all around
Raynor: My pleasure. Thanks, Rich. Appreciate it.