Jeff Standridge:
Hey guys, welcome to another episode of the Innovation Junkies Podcast. I’m Jeff Standridge.
Jeff Amerine:
This is Jeff Amerine, glad to be back.
Jeff Standridge:
Yes, sir. Good stuff. Hey, you know, last week we promised our listeners that we were going to dig into some financial disciplines of scaling companies and, uh, you know, we’re coming up in the midst of Q4 coming up on year end and, and my experience is it happens to be during that time of the year that many organizations begin to realize that they don’t have the financial disciplines in place that they really need to have, because, you know, for the very first time they’re looking at what level of profit they have, what level of cash do they have, are they going to be making any distributions and, and really wish that they had planned their, their financial disciplines and implemented them a little more diligently. Any, any observations you have there?
Jeff Amerine:
Yeah, particularly I think it’s relevant to 2023. It’s a challenging financial market. Input costs are increasing, interest rates are high, your cost of capital by definition is more expensive. Other sources of investment are not as prevalent as they were a commitment to fundamental economics, financial discipline, unit economics. This year in particular, maybe more than most is really, really important. And it’s, and it’s a year that a lot of the operators that are kind of in their prime at this point, haven’t had experience with. They haven’t seen high interest rates environment. They haven’t seen a tightening of loans from banks. They haven’t seen a situation where the equity investment market is tight and where valuations have gone down. So financial discipline is super important this year. It always is, but it’s even more so this year, I would say.
Jeff Standridge:
Well, and you know, we saw it, we saw the, the impact of, of low financial disciplines right around the COVID time. When, when all of these companies started starting having their doors closed involuntarily for periods of time. And then, and then the national average of days cash on hand came out at less than 27 days, you know, meaning that if that, that they could literally keep their doors closed for 27 days and then they were going to be shuttered permanently on average, which means 50% or above and 50% or below if it happens to be the median. So that’s concerning in and of itself. But let’s separate the concept of having a good system to track expenses and a good accounting system. I mean, that’s just table stakes, right? Having a system and internal financial controls that prevent fraud, waste, and abuse, that’s just table stakes in my opinion having some degree of financial reserve or cash reserve on hand. Maybe it’s not four to six months, which would be ideal, but it’s got to be more than 30 days. That’s just table stakes. So if we separate all of those table stakes, what do you see as some of the top practices that scaling companies who are doing it right and doing it well actually put in place?
Jeff Amerine:
Well, so a good example is where to apply capital. You know, what’s gonna be the best return on capital? And if you’re scaling and you’re thinking about we’re gonna acquire customers or we’re gonna spend money on product, how do you know? How do you know that that’s gonna provide a good return on investment? So really being tuned in to what the levers are, what the drivers are for growth, where to spend the money appropriately.
That’s, I think, particularly critical. A perfect example on the investment side, we take lots of meetings where we’re talking to companies that are growing and they’re raising money, they’re very innovative companies. We’ve had companies relay, well, we had one whole department that did this function that we thought was going to be crucial to our value and our offering in the market and found out that our partners were offering something very similar. So that part of the service was completely redundant, we realize our real value is in the platform itself, the software and the system. And so being able to think strategically and apply the financial disciplines say, we’re not gonna do that, but we are gonna do this because that’s where we can see the return on that invested capital. I think that’s the strategic part of it, more so than just the table stakes, the fundamental stuff you have to do.
Jeff Standridge:
Yeah, I think that same level of intelligence. So intelligence about where you need to invest to grow. I think also some intelligence around what I call profit intelligence, right? Around products and clients, product services and clients. The bigger you get, the easier it is to lose control over your client portfolio. And I was running a shop one time where we had, hundreds of customers and when we really Did as good a job as we could of allocating kind of fixed cost across those customers We found out that you know almost precisely the 80-20 rule applied that 20% of our customers Were driving 80% of our profit and not only that they were subsidizing the loss that was being generated by another 30 or 40% of our customers. So to put that in layman’s terms, it would have been more profitable for us to fire 20 or 30 or 40% of those customers than to continue servicing them at a loss. And so what we had to do then was step back and say, okay, which customers do we need to give a price increase to? Which customers do we need to reallocate resources away from because they’re consuming too many resources? Which customers do we need to terminate their contracts after an appropriate period of time, give them notice and maybe go ahead and terminate the contract. And oh, by the way, we had to do a little bit of all three of those in order to do that. Well, that’s a financial discipline that not a lot of organizations really have is to look at what’s the profitability of your clients, do that same thing on a product level or do that same thing on a service line level.
Jeff Amerine:
Yeah. The other thing that relates to some of that too, and it can be tactical, but it’s in some ways it’s strategic is do we have the ability to change contract terms with a client to where we’re getting more cash upfront to where it’s a virtuous cash cycle, uh, particularly for companies that are having to create tangible products or have a lot of expenses on the front end aligning more closely the accounts receivable, the payment terms with when you’ve got to pay things out is a discipline that, I mean, oftentimes the inability to do that leads to insolvency. You can really grow yourself out of business and you just can’t get lines of, of a credit operating lines of credit to be able to handle some of that at times. So you really need to go back to the customers and say, Hey, we need more favorable terms for the following reason. That’s another one of those disciplines that I think can really help support growth.
Jeff Standridge:
Yeah, you know, it’s interesting to look at the grit, tenacity, and discipline that comes from a company that has bootstrapped itself versus one that has raised copious amounts of venture capital. I think all companies could benefit from going back and bootstrapping some of their…you know, new product development, new service line development, new market expansion or what have you, because it reintroduces them to the concept of grit, tenacity and discipline in scrappiness in terms of trying to fund their business. And I don’t know if you agree with that or disagree, but it’s a
Jeff Amerine:
Oh, yeah, a hundred percent. You’d really, you really want to ask the question as a financial discipline is. What can we do with the least amount of resources to validate that we’re on the right track for a new product or new service offering that also requires some discipline in that you’re not just pouring money on things that don’t have good validation, don’t have good demand drivers that you can support with good data. So by all means, that’s another important financial discipline.
Jeff Standridge:
Yeah, so we’ve got the table stakes of you need to be, you need to have a good quality accounting system that’s producing management reports for you on a monthly basis at best, because even if you get them on the first day of the working month for the prior month, it’s still a rearview mirror, right? So at the very best, you need to be getting them within a few days of the, of the month, following the month that you’re actually reviewing. Uh, so a good accounting system with good quality management reporting good internal controls to prevent fraud, waste and abuse. Those are all table stakes. But then on top of that, we have things like being able to do investment analysis, strategic investment analysis to see where putting this amount of money will result in this amount of growth, but putting the same amount of money will result in this amount of growth over here and determining strategically where you need to invest. Doing the profitability analysis of your portfolio of products, services and or clients. Are other ways, uh, what other, uh, and then, and then, you know, not losing your roots of bootstrapping, right? Being willing to go back and bootstrap your organization occasionally in order to reacquaint yourself with some of those disciplines, any other things that you can think about in a scaling business, any practices, tips, tactics, or strategies.
Jeff Amerine:
Oh, I think the other thing is, aside from just listening to guys like us talk about it, I think doing a fair amount of comparable analysis with other businesses, benchmarking, looking at why are they so effective? What sort of processes are they using? Why do they always seem to be rolling out good products in less time with better performance? Benchmarking and learning from other well-run companies is another really good technique.
Jeff Standridge:
Mm-hmm. Yeah. And there are, you know, there are some resources available out there to allow you to get financial benchmarks. Like, uh, for a company my size in my industry, um, here are some key metrics around various ratios, liquidity ratios. Here are some key metrics around revenue per employee in terms of, uh, benchmarks around gross profit, around net income, around sales growth, year over year sales growth. So, I am a big proponent of benchmarking. And one way you can do that is, you know, just looking at individual companies. The other way that you can do that is to subscribe to some of the data provisioning services, uh, like biz minor or a Briego or others to actually look at companies in your industry, uh, and, and what some of those key benchmarks are for them and how you compare to those.
Jeff Amerine:
Yeah, absolutely. Those are all great resources. You can glean a lot from public companies on even things like Yahoo Finance. If you’re early and you’re scaling, Crunchbase and PitchBook are also really good sources to be able to understand what companies were doing at various stages of growth.
Jeff Standridge:
Mm-hmm. That’s right. We’re talking about operational effectiveness and financial disciplines and scaling your company. Uh, we’re about, uh, three episodes in now, uh, and we’ve got a couple more to come. This has been, uh, another episode of the Innovation Junkies Podcast. Thank you for joining.
Jeff Amerine:
See you next time.