Anytime is a good time to tune up the economic engine of your enterprise. However, when we are in a season of economic uncertainty, it becomes even more essential to do so.
Clearly, we are in one of those seasons right now. The impact of things beyond our control as business owners, executives, and managers threatens the notion of “business as usual.” Most of us are unclear regarding the total effect of the new US regulations on healthcare, for instance, but it’s a pretty safe bet that our costs will increase. That means to just sustain profitability, we must tune up our economic engines.
Fortunately, there are several variables to consider in the tune-up process:
• Revenue can be increased
• You can reduce the cost of sales, thereby enhancing gross profits
• You can reduce day-to-day operating expenses, thereby improving net profitability
• You can increase cash flow by reducing inventory, accelerating collection of accounts receivable, or paying our own bills a bit more slowly
In approaching the revenue variable, focus on the value proposition of your products or service. How might you increase the value of what you sell in the eyes of your customers? Where is their pain—and how can you be their best solution to decrease or eliminate that pain? By so doing, how much more might you sell? Might this justify an increase in price? These are critical considerations because without them, the simple—and incorrect—answer to increasing sales is to reduce your price. And this will negatively impact your gross profit. Not a good approach to tuning up your economic engine!
Reduction of your cost of sales requires that your stakeholders become lean thinkers. A lean thinker observes the labor and material costs of producing your products or service and asks two key questions: Where are we wasteful? How can we reduce or eliminate that waste?
In the lean management philosophy, we look for wastefulness in a variety of areas. Do you ever produce defective products? If so, that’s waste—and it’s a candidate for cost reduction and gross profit improvement. Do you ever produce more product than is necessary? If so, that’s also waste. Do you ever spend more on transporting our products or services than you need to? If so, it’s waste again! Depending on which expert you consult, there are seven or eight key wastes that lean thinking will help you identify. Each one of them has the potential to enhance your gross margins!
Regarding day-to-day operating expenses, there are two important actions that will lead to cost reduction and profit enhancement. The first of these is to speak ROI. In other words, as you review each major expense category on your P&L, ask the question: Does this item help in some identifiable and significant way to create business, reduce costs, or positively impact company profitability? Does it contribute to ROI? Although there are some expenses that are mandated by regulation, and therefore might not pass this test, most expenses should.
Second, even if the expense passes the ROI test, are there ways to make it more lean? There are organizations today that analyze your expenses—and only get paid if they find you savings. This type of audit has sometimes brought about hundreds of thousands of dollars of expense reduction!
Finally, cash flow is an important target for economic engine tune-up. While inventory is essential in any product company, we must learn to look at inventory as dollars in the form of “stuff.” Stuff must be sold to transform it back into dollars—and if it is not selling, stuff becomes “sludge” that clogs the cash flow arteries of any business. A good tune-up will take a critical look at inventory, recognize where there is sludge, and do whatever it takes to transform it back into cash. This is often painful, but cash is king; stuff is not!
Accelerating accounts receivable can also be painful. Often, small businesses are guilty of letting AR collections slip because they hate confrontation. However, when they finally bite the bullet and address the issue with slow-paying customers, things often improve.
Paying your own bills more slowly should generally be seen as a last resort in improving cash flow. Those who resort to this as a routine tactic usually find their vendor relations suffer significantly. That said, it is an option to consider.
Is an economic engine tune-up in your plans as we approach 2014? I recommend that you make it an agenda item with your executive team. Consider it as a goal. One client of mine who had never enjoyed more than a 2% pre-tax net improved to over 7% as a direct result of just such a tune-up!