As an accountant with a quite varied clientele, I have the catbird seat as regards what the successful actions and the unsuccessful actions taken are. I won't say that successful businesses use a common formulaic approach but I can say that unsuccessful ones almost one for one ignore the basics.
A business presumably offers goods or services that are wanted or needed by a viable marketplace that can and will pay their price. Some businesses operate on very thin margins and competition keeps them at bay. Some have unique positions via patents, copyrights, and well designed marketing and can command their price. Ferrari has no problem getting its MSRP…if you can call it that. But McDonalds has to offer a $1 menu to keep em comin' in.
Assuming a business sells in reasonable quantities what could go wrong?
The main difference I observe between successful businesses and those that struggle is how they handle debt and Capital. Few businesses get along without some debt whether issuing stock, bonds, securing bank loans or private funding, even personal credit cards for Capital aren't uncommon. Debt begins at start up and never seems to end when growth is the game. Handling this debt is a crucial concern on Capitalism. Put to work it can help increase production and sales and potentially profitability. The cost of debt is also crucial and as interest rates rise the burden to pay debts becomes more difficult even onerous. How much debt a company has makes a big difference in all aspects of management and the Balance Sheet reflects it. Popular ratios are geared to show how long a company can sustain itself and its debt load. An old one, the Acid Test, looks to determine the ratio of ready cash to bills/debts and if below a certain mark like 2.5 it is considered risky and a potential failure looms. I have even seen negative ratios and that is a tough go and extremely stressful. Businesses with too little cash, obviously need cash but Banks love to turn down loan to those who need them. That's what opens the door to governments giving loans or just free money to those who won't be able to repay it. This is more of a vote geting scheme than genuine help to business.
Of all missteps a business can take it is the failure to pay down debt when cash comes in a flood. A sudden affluence means lots of cash. If that cash is used to pay down debt or sometimes buy back stock then debt gets reduced and the Balance sheet is that much healthier. If the cash is just consumed like in bonuses, crazy raises, more stuff or dumb expansions and/or acquisitions, the Balance Sheet suffers. Surely there can be exceptions like when buying at a steep discount or taking over a bankrupt company whose remaining assets outstrip the cost, but generally and creates a unique synergy, if a business finds itself with a bundle of cash it should apply it to debt reduction with the goal of reducing debt service and improve cash flow ie profits. If there's still cash left over do your best to apply it productively.
Businesses that act like consumers fail. Businesses that act like smart investors have a chance. The CFO is in part responsible for keeping the ratios in check and advising the CEO where cash is best spent. That is not a dictatorship and Boards seem to frequently be at odds with CFOs. In smaller businesses, the role of CFO and CEO are merged into one person and the devil's advocate nature gets lost. Mssteps happen more readily in such cases.
In recent days, the ERC brought a lot of cash into businesses. If investing it to increase productivity, no problem. If buying a new fleet using the cash as down payments and incurring a big increase in debt service, it could lead to failures no matter how nice the vehicles look on the street. Having sudden cash should get some reduction to debt. Whereas cash invested to increase plant etc has some unknown results out there, reducing debt is a dead certainty on what is saved in interest. This latter approach isn't sexy but companies that use sudden windfalls of cash to reduce debt are ultimately better able to remain in business and excel. The Balance Sheet tells the tale.
The worst handling of debt one can find is the US Government. They never reduce debt and always expand it claiming that growth will keep it in check. But when that growth becomes contraction the debt overtakes all other spending and we get serious financial instabilities. Recession or Depression are among them. A country that can print money can get away with this for a while but eventually the money is visibly debased and no one wants it. That includes their bonds because of both the default risk and currency debasement ie ongoing lowered purchasing power. This is more apparent domestically because the option to switch currencies is not present. That's when the full faith and credit becomes the barrel of a gun.
Yes, how a company or government handles debt is crucial. I'm always proud of clients who keep their wits about them when cash falls into their laps. Paying down debt, improving their Balance Sheet and keeping profits coming in are signs of good management. I am afraid I don't see any of that in the US Government. ALWAYS spending more and never paying down debt is a sure sign that a Country is on its way out. Desperate politicians will do stupid and destructive things to save their position of power so expect that and soon. Here is a brief article about Sovereign Debt failure. It ain't pretty. https://www.thebalancemoney.com/what-is-a-sovereign-debt-crisis-with-examples-3305748#:~:text=A%20sovereign%20debt%20crisis%20occurs,these%20indicators%20for%20political%20reasons.
To avoid being victimized by governmental debt failure and currency debasement, try to get on the sidelines of the USD. Some Gold and Silver helps, foreign stocks denominated on foreign currencies can help, some physical assets like real estate or farm land can help but remember a guaranteed result/return can be had by reducing debt. Saving accruing interest by reducing or even retiring debt is a surefire way to be in a better position and improve your own Balance Sheet. This will become all too real and sooner rather than later.
If you need help on the best way(s) to reduce your company or personal debts, email me. You may not like what I have to say but consider it tough love.
Best,
Donn Marier
DM-Your Own CFO