Fifth in a 6-part blog series from Steve Lantz, Strategic Business Advisor
In this series, we are looking at the five fundamental principles every manufacturer should master to grow their business. So far in our journey, we’ve explained why a strategic plan is an essential tool for every company, helped you identify the various segments of your business and encouraged you to address each one in your growth plan, and shared my Clean Sheet process for making sure your organization is properly designed to meet your objectives.
By this point in your strategic planning process, you’ve identified where you want your business to go and how you expect to get there. Now you’re ready to start making critical decisions about how to best apply your company’s resources – your money, energy, and time – to reach your growth goals. And while you may have taken your company this far, if you want to grow your business into a more significant player in the market, it’s time to take your gut feel out of the equation and start making true financial-based decisions.
Keep Your Eyes on the Numbers
In our discussion about segmentation, I recommended using a segmented profit and loss statement, or segmented financials, to analyze the revenue, costs, and profitability of each area of your business. Once you’ve compiled this data, it is imperative to continually monitor these numbers to make sure the assumptions and predictions you made in your strategic plan are still correct, and that you are still on track to reach your short- and long-term goals. Market conditions change. Just because something was true six months or one year ago doesn’t mean it is still true today, so you can’t drive your company’s growth without staying current on market conditions. Keep your segmented financials up to date and use them to continually assess your plan and refocus your resources whenever necessary.
Funding Your Growth: Use Proven Financial Assessment Tools
One of the most important financial decisions that comes from strategic planning is how to fund growth. Whether you plan to acquire a competitor, hire new employees, install a piece of equipment, or pursue R&D in a new product line, your strategic plan will almost always include at least one growth initiative that requires financial investment. Whatever the initiative is, there will be two vital decisions to make: should we invest money in this? And if yes, where do we get that money?
When it comes to deciding where to invest your capital, let the numbers be your guide. You can’t grow just for the sake of growing – you want to strategically grow your company in the areas that will bring the biggest returns. I wish every small business owner would take the time and effort to question if the company’s free cash flow should be invested back into the business, or if it would be more profitable to invest that money elsewhere. Tracking the right financial metrics using parameters like Weighted Average Cost of Capital (WACC) and using proven financial assessment methods like net present value (or depreciated cash flow), internal rate of return, and payback period will help you calculate the expected return on any investment. I encourage you to research these formulas and consult with an experienced financial analyst if necessary, so you can make informed decisions about how to invest in your company’s growth.
Funding Your Growth: Consider All Sources
Once you’ve decided to make an investment, your next decision will be how you are going to fund it. Too often, business leaders use available cash to dictate their decisions – if they don’t have the cash to cover the investment, they won’t do it. But the amount of cash you have on hand has little to do with whether the idea on the table is valid. If the analysis shows an investment will be profitable, you should consider all options for securing the money to pursue it. Beyond using your cash reserves, you can find new investors or apply for a bank loan. Each of these sources have their own advantages and disadvantages. Taking cash from your operations can impact your company’s liquidity; selling stock to investors dilutes your ownership and any future gains from the sale of your business; bank loans come with the burden of interest payments and potential covenants. Again, this is why it’s important to complete a detailed analysis to decide which funding source makes the most financial sense for your company. Some people are hesitant to take bank loans because they think of any debt as bad debt. But if your projections show the cash flow generated from your growth will far exceed your interest payments, that leverage can significantly increase your return on equity. Many successful businesses see debt as opportunity and use bank financing as a key part of their capitalization plan.
I should also note that if you are going to pursue investors or bank financing, you will be required to provide financial analysis to demonstrate how the investment will result in your company’s growth. Yet another reason why it’s important to get in the habit of tracking your financials and doing this analysis now.
Summing it Up (Pun Intended)
Most of the time, the demand for your company’s resources (your opportunities) will far exceed your available funds. That’s why I encourage you to use these financial tools to establish a healthy competition for your capital. Don’t chase an idea just because your heart or gut tells you to, apply these tried-and-true methods to justify how you are deploying your resources to fund your growth plan.
In our next and final edition of this series, we’ll talk about continuous assessment, and why maintaining your strategic plan requires re-evaluating it on a regular basis.
And as always, if you’d like help getting your company on a strategic path to growth, just contact us!