Several years back, I was the Business Coach for a mid-sized company in the healthcare industry. When I first started working with the leadership team, the company grew rapidly and was on the path to insolvency. In nine short months, we were not only able to accelerate their growth but turn them into a highly profitable company with plenty of cash in the bank. The company did so well that it sold for a high multiple only 18 months after our initial meeting. The secret to the turnaround was found in how we used metrics to propel the business. The turnaround happened so quickly and easily that one of the senior leaders insisted that I had played with numbers. He could not comprehend how we so quickly turned the company around. I want to share with you how you can use the same steps to ignite the growth and profitability of your company.
In Your Business is a Leaky Bucket, I identified how small improvements could lead to huge improvements in the bottom line. I identified 15 ways (I refer to as leaks) to improve your financial results in the book. I provided an example whereby improving revenue, cost of sales, and overhead each by 1%, a client could improve profit by 42%. That client made three seemingly small moves that increased their bottom line from 3% to 20% of revenue in one year. Proving that small moves good lead to big results.
HOW WELL DO YOU UNDERSTAND YOUR FINANCIAL STATEMENTS?
One of the keys to achieving higher results is understanding your financial statements better. Most accountants produce financial statements and fail to help you determine how to propel your business forward. This is a big weakness among the leadership team. And you don’t have to be a Certified Public Accountant to learn how to understand them in a highly impactful way for your organization.
One fact that does not get talked about often is that those financial statements, while important, are missing some of the most critical information for you to build a better business. Your financial statements are not wrong. They are just limited because they only capture financial transactions. They don’t capture the metrics needed to help understand the cost of the organizational missteps. In most organizations, the costs of these missteps usually can triple your net profit.
Generally accepted accounting principles don’t help you measure the business leaks happening in plain sight. For example, there is no financial statement line item measuring the costs of keeping poor performers, deals that you lost because of inept salespeople, margin lost because of poor pricing, and so on. It would be best if you used the metrics to propel your business.
BUSINESS METRICS DEFINED
Before I take you through the thought process that will help propel your business, I want to clarify some terminology. There are several terms used in business that represent different types of metrics. Metrics include goals, targets, critical numbers, and key performance indicators. Business metrics allow you to determine how well each employee and the company perform. Metrics help measure whether you are on track to achieve annual and quarterly priorities. There are many metrics (profit/loss, balance sheet, departmental, people, process). It takes discipline and skill to find the smaller number of metrics that make the most significant difference to your organization.”
While we recognize all metrics as important, the “critical number” designation means this metric is the main priority for the company. We must not have more than two. We need two for balance—if we are too focused on performance indicators, we may damage our relationships, and vice-versa. This metric(s) should help you focus on the biggest obstacle(s) to achieving your goals.
What is a key performance indicator (“KPI”)? KPIs are either leading or lagging metrics identifying activity, inactivity, and effects of accumulated decisions.
- Lagging indicators are metrics that portray the performance of the past. Examples of lagging indicators include revenue, gross margin, net profit, cash in the bank, and turnover.
- Leading indicators are those metrics that help us forecast and predict future results. Leading indicators are those measures that focus on today’s actions that impact the lagging indicators. For example, all businesses have revenue goals. The starting point to generate revenue is interacting with a potential customer. Leading indicators for revenue include the number of qualified leads, number of appointments, dollars in the pipeline, etc.
Many metrics can be leading or lagging indicators. For example, I had a Business Coaching Client that recently missed their revenue goals for the last two months. When evaluating why the goals were missed, they concluded that they failed to use their marketing budget fully or misallocated what was spent. While the marketing costs were a lagging indicator on their financial statements, how and how much was spent on marketing led to insufficient leads and fewer sales.
Business goals describe what a company expects to accomplish over a specific period. Goals might pertain to the company as a whole, departments, employees, customers, or any other business area. Goals are metrics and key performance indicators. Targets are the long-range metrics we aim to achieve. Targets are a little more difficult to forecast than 90-day and 1-year goals and metrics.
Goals and targets are the terminology used in business planning and priority setting. While you could use these terms interchangeably, I consider goals well-developed metrics that we feel confident in achieving. You should not call something a goal unless you are committed to achieving it. Not reaching a goal is a failure in performance. On the other hand, targets are typically lofty goals with much lower certainty, and we have not determined how to achieve them. Targets are helpful because they stretch us to develop new strategies and tactics to improve our business model. Falling short on targets is not necessarily a failure.
There are three primary ways we use metrics to propel a business:
- Goal Setting
IS YOUR GOALSETTING PROCESS BROKEN?
My first objective with many business coaching clients is to shift them from arbitrary to well-thought-out goals. An arbitrary goal has little basis. Just because you grew 30 percent last year does not mean you will continue to grow at that rate.
Learning how to develop goals does not require a Ph.D. in quantum physics. It requires the leadership team to identify key metrics, the assumptions that need to be considered and establish metrics expectations.
A key sign that you will likely miss your goal, or achieve it for the wrong reason, is when there is little debate. I often find the goals could be set much higher, but the leadership team is too focused on how they have been doing things rather than how things could be done. The secret is in debating the assumptions and asking questions like what must happen and be true to achieve the goal.
Let’s use my client that failed to achieve their goals for two months. To develop their revenue goal, they need to make assumptions about the following metrics:
- # sales people
- Dollars spent in marketing
- # leads generated
- # of leads converted to appointments
- $ of appointment converted to clients
- Average $ earned on each client
Each of the metrics has a range of potential outcomes. For example, how many of the salespeople will meet their quota? How many will leave or be fired? How many do we have to hire and by when? Can we hire that many people at one time? And so on? How can we influence each of these assumptions? Where do we like confidence? How can we mitigate risk?
I agree that this seems like a lot of hard work, but it is necessary. All of the issues will be faced during the year. You will have a higher success rate if you plan to improve the right steps in the process rather than wing it and hope that you will make the right moves. Hope is not a strategy. Through discussing these assumptions, you will find the key success factors that need to be addressed in your business plan. You will have established the foundation to propel your business by prioritizing and addressing success factors.
IT IS NOT THE BUSINESS METRIC…IT IS WHAT YOU CAN LEARN FROM IT
Consider evaluating the effectiveness of you are using metrics to propel your business. I often find that leaders are using metrics but from the wrong perspective. If you are one of our business coaching clients, you evaluate metrics when creating your budgets and forecasts. The metrics used to create them are based on what you have learned from daily, weekly, and monthly reviews of leading and lagging metrics. It is not only possible but probable that you are going through these rituals and missing the majority of the value of the process. When done properly, you drive continuous improvement, debunk flawed assumptions, and increase momentum in your business. This all happens through continuous improvement, not a once-a-year budgeting process. By debating and discussing your metrics, you can make more of the right moves to improve your results faster.
It starts with budgets and forecasts. A common mistake is not to include the entire leadership in their development. Your financial function can lead the process and construct the financial model, but the functional leaders own the inputs. We want a leader to own and know their numbers. When taken seriously, developing functional contributions to your forecasts causes the leader to consider improving their metrics in the coming periods. And, you want the leaders developing their targets considering and company-wide view. You need to bust siloed thinking. Doing this helps leaders understand how they and their functions contribute to the overall numbers. When done well, the forecasting process leads to continuous improvement.
You must use a widget-based approach to budgeting and forecasting. A widget is a primary input that drives your business model. The widgets are leading indicators to success, such as # of Leads, # of Clients, # Jobs, and so on. Why widgets? The lagging results, such as sales, are important, but you cannot manage sales. A key to optimal success is driving the inputs that cause sales. A widget-based forecasting approach allows the leadership team, not just the CFO, to own the forecast. Using widgets as inputs, you can improve forecasting accuracy and easier forecast cash.
Depending on the nature of your business, many widgets should be developed and tracked weekly. You might be thinking, what is in it for you? We have found that prioritization and focus get much stronger. One of our software-as-a-service business coaching clients focused all their energy on building better software. While this was important, looking at metrics from a holistic standpoint, the leadership team recognized that their marketing and sales functions were performing poorly. This was perplexing because they had built one of the best platforms in their industry segment. Using the key marketing and sales metrics, we focused on why the metrics were below expectations. This led to a deep discussion that you can learn more about by reading my blog post Trying to Sell and Apple to Someone Looking for Chocolate. That discussion led to substantial changes to their go-to-market strategy, and I am proud to say that momentum changed almost immediately.
IS YOUR BUSINESS GAINING MOMENTUM?
One of my all-time favorite books is Good to Great by Jim Collins. In that book, Jim discusses the Flywheel effect. The following is an excerpt that can be found on his website.
No matter how dramatic the result, good-to-great transformations never happen in one fell swoop. There is no single defining action, grand program, killer innovation, solitary lucky break, and miracle moment in building a great company. Rather, the process resembles relentlessly pushing a giant, heavy flywheel, turn upon turn, building momentum until a point of breakthrough and beyond.
Picture a huge, heavy flywheel—a massive metal disk mounted horizontally on an axle, about 30 feet in diameter, 2 feet thick, and weighing about 5,000 pounds. Imagine that your task is to get the flywheel rotating on the axle as fast and long as possible. Pushing with great effort, you get the flywheel to inch forward, moving almost imperceptibly at first. You keep pushing and, after two or three hours of persistent effort, you get the flywheel to complete one entire turn. You keep pushing, and the flywheel begins to move a bit faster, and with continued great effort, you move it around a second rotation. You keep pushing in a consistent direction. Three turns … four … five … six … the flywheel builds up speed … seven … eight … you keep pushing … nine … ten … it builds momentum … eleven … twelve … moving faster with each turn … twenty … thirty … fifty … a hundred.
Then, at some point—breakthrough! The momentum of the thing kicks in in your favor, hurling the flywheel forward, turn after turn … whoosh! … its heavyweight working for you. You’re pushing no harder than during the first rotation, but the flywheel goes faster and faster. Each flywheel turn builds upon work done earlier, compounding your investment of effort—a thousand times faster, then ten thousand, then a hundred thousand. The huge heavy disk flies forward with almost unstoppable momentum.
Now suppose someone came along and asked, “What was the one big push that caused this thing to go so fast?” You wouldn’t be able to answer; it’s just a nonsensical question. Was it the first push? The second? The fifth? The hundredth? No! All of them were added together in an overall accumulation of effort applied in a consistent direction. Some pushes may have been bigger than others, but any single heave—no matter how large—reflects a small fraction of the entire cumulative effect upon the flywheel. Here’s what’s important. We’ve allowed the way transitions look from the outside to drive our perception of what they must feel like to those going through them on the inside. From the outside, they look like dramatic, almost revolutionary breakthroughs. But from the inside, they feel completely different, more like an organic development process.
As a business coach, I have witnessed companies that can show you excellence in their processes but have little to no momentum. I recommend you develop your flywheel and measure momentum. Using metrics in conjunction will help the leadership better understand creating momentum. There is a direct correlation between developing and analyzing metrics and the flywheel effect. When constructing your metrics and priorities, you need to consider how this will help momentum in your flywheel faster.
When leveraged properly, metrics lead to propelling your business forward. Metric development and review is a critical skill that all leaders must master. It takes practice, practice, and more practice like any other essential skill. You can only get better at forecasting and using metrics with commitment, discipline, and continuous improvement. And the Finance department is not solely accountable for forecasting. Instead, it is a process that requires input from everyone. All leaders need to help develop the metric targets related to their departments. It is also helpful to run the standards by the employees that must deliver on them. The feedback is where the gold lies.
The review and discussion process as results are occurring is crucial to having a predictable business gaining momentum. By critically reviewing actual versus planned results, you help everyone see where the critical leaks are in the budget. Not only do you need to identify the leaks, but you must also address them. You must identify the few big leaks that are slowing momentum. Once identified, discover the problem that is causing the metric. Be relentless in truly addressing the issue by ensuring that you have company initiatives that will remove the bottleneck.
With practice, I believe every leadership team can produce highly predictable results. Each time you evolve a new forecast, you will learn new ways to improve performance and strengthen accountability in your organization.
Howard Shore is a business growth expert who works with companies that want to maximize their growth potential by improving strategy, enhancing their knowledge, and improving motivation. To learn more about him or his firm, please visit his website at www.activategroupinc.com or contact Howard Shore at (305) 722-7216.