Ugh, Financial Modelling - Part Two
The Carrot and The Stick
Recently, the Australian social enterprise industry has been hit with a rare scandal.
One of the better known enterprises, who donate their profits to developing countries, haven’t made a donation for the last three years.
Not because the money is going to some rich investor, but because the business has financially underperformed.
No profit = no money to give away
What angers me is that there are currently thousands of customers who all spent money with the business, who have been deceived about their "social impact".
I’ve written before about the dangers of profit distribution models for exactly this reason – there’s no impact in years you break even.
But it brings financial modelling for social enterprise into a new light. This group either
a) Didn’t do their numbers
b) Completely botched their guesses
c) Did the numbers, saw the shortfall, and operated deceptively
That’s why it’s so important that we get the numbers right.
There are good reasons for you to do your modelling properly:
· Fewer headaches – you can spot issues earlier than usual.
· Peace of mind – budgeting is an activity you can plan for, and it doesn’t then occupy too much of your headspace at other times.
· Early detection of opportunities – You can start playing with “What if…” questions 12-18 months in advance.
· Regulators love you – Most businesses have people looking over their shoulder, and that’s ok. Clear financials keep them very happy, removing ambiguity and suspicion.
· Investors take you seriously – By spelling out how the business works, investors can make better decisions, which works in your favour. Either they buy in, or raise a concern about the numbers, which might save you some trouble down the road.
· Your staff have clarity – I work for an organisation that runs a type of Open Book Management, like the kind Jack Stack wrote about in The Great Game of Business. We all know where our revenue comes from, where our money is spent, and are empowered to each make good decisions that help the company and therefore our social mission.
· You can have what you want – most groups I work with have a long list of things that they want to do/buy. Since you can’t afford to do everything, you have to prioritise. By fully grasping the numbers, clever entrepreneurs can explore tradeoffs that allow them to say yes to the things they love, with minimal pain.
If you don’t do your modelling properly, and most of you don’t:
· End of Financial Year panic – One group I work with have a terrible ritual; every May they discover a looming shortfall, and scramble to write grant applications and plead with philanthropists. May and June are frantic, the founders are pulled right out of the business for those two months. This isn’t sustainable or responsible, issues like this should be detected well in advance.
· You’re putting your staff at risk – If you are employing people, you want to ensure that you can pay them next week. Ignoring the financial health of your organisation doesn’t just jeopardise the business, but also the families who depend on it. This is also a case where perception is reality; scared staff don’t perform well in the long term, even if their fears are unfounded.
· You could have a negative social impact – If things suddenly change or collapse, will your social mission be worse for it? Building expectations then failing to deliver is a terrible situation for all involved.
· You put your blood, sweat and tears into something irrelevant – It’s good to work hard at something worthwhile. It’s devastating to work hard at something that makes a "surprise loss", just because you didn’t properly explore the numbers.
· You forget a hidden-yet-substantial category of expenses – You can build something astonishing, then forget to factor in taxes or insurance or superannuation. Here’s one: does your enterprise have money set aside for staff redundancies? What happens if you need to make someone redundant? What if that person is you?
· The window of opportunity shuts – This one hurts. To try and fail can be noble. To stuff about and miss your moment is tragic.
Of the 153 enterprises I have worked with, fewer than 30 have had their act together.
Being a social entrepreneur doesn’t excuse you from knowing your numbers.
In fact, you need to be across it even more, because your work is so important for the world.
To think that you can brush it off is dangerous, arrogant and stupid.
Surely you’d rather put the work in and be calculated, wise and calm?
Up next in Part Three, we’ll look at the bare bones of a model, so you can get your first version done…
You can go straight to:
Part One: What is a Financial Model?
Part Two: What does a Financial Model do for me?
Part Three: Building the skeleton of the Model
art Four: Tips & Traps