In sports, halftime is a great time to review the first-half results and make any adjustments to the game plan to finish strong in the second half. The coaching staff pulls the first-half score and all the statistics (numbers) that contributed to it and lays out the story of what went right and what went wrong.
This may sound familiar, because it’s halftime talk. July is over, and there are a few months left to make or break your financial year. What information do your numbers give you and what are you doing about it to meet your financial goals?
A Numbers Game
Lack of financial literacy is one of the leading causes of business failure. Leaders need to know not just what the numbers are, but what they mean. The numbers create a story and understanding the story means understanding your business.
Breaking Down the P&L
The universal scorecard for financial reporting in business is the profit and loss statement (P&L). A well-structured P&L is a record of past financial performance over a period of time, usually a month (month to date) or several months starting at the beginning of the year (year to date). The P&L is usually broken down into four main categories: revenue, direct costs, overhead, and net profit.
The first key to understanding the financial information behind the numbers is that a number by itself doesn’t mean anything. A number must be compared to another number to be meaningful.
A P&L for the current year is meaningful if the numbers (actuals) are compared to an operating budget or to the prior year’s results.
Revenue vs. Budget: What’s the Story?
If revenue is higher than the prior year, or higher than budget, it indicates you’re growing! The story is coming together. If this year’s revenues are lower than those in past years or the budget, it could indicate a problem that needs further analysis and evaluation.
Direct Expenses: Understanding Costs
The direct expenses are mostly labor and materials that can be tracked directly back to specific jobs. Rental equipment, dump fees, and other miscellaneous items also may be direct expenses if they are related back to specific jobs, but usually labor and materials are the big items. Subcontractor expense is another part of the direct costs, but we’ll get to that later.
Gross Profit: Measuring Efficiency
The money remaining after all direct costs are covered is called the gross profit (GP). The GP number tells the stories of estimating proficiency and/or production efficiency.
For example, if my GP goal on a job is 50 percent, then I am planning to earn 50 cents on every dollar of revenue I sell. If I sell a $10,000 job and spend $5,000 in labor and materials, I will earn 50 percent GP. Nice job!
But if I can do the same job but manage my direct cost to $4,500 by being more efficient with my labor and/or more aggressive in material buy-in, I can earn more GP (55 percent). That is significantly better. The idea is that by examining the job numbers (job cost), I can learn how to improve performance going forward.
Financial Literacy: Unlocking the Story
The P&L is a cumulative look at all jobs in a period and lays out a story of performance. Are we estimating properly? Are we purchasing in line with our estimates? Are we hitting labor hours? The P&L doesn’t always reveal the culprits behind missed numbers, but it points the experienced businessperson to the areas of concern for further investigation.
Gross profits earned through subcontractor-performed work are often less than profits earned through self-performed work as a percentage of the revenue, so it makes sense to look at self-performed versus subcontractor-performed work separately.
Overheads: Keeping Growth in Check
The plot thickens with the overheads. Are they higher than the prior years’ overheads? Are they higher than the operating budget?
If revenues are growing, overheads will naturally increase, but in well-run businesses, overheads tend to grow at a slower pace than revenues, which is why strategic revenue growth can lead to greater profitability and positively impact your financial goals. If overheads are growing faster than revenues, the story is not going to turn out well. This means the P&L is telling us something is out of balance with your financial situation, and this can affect your profit in the short and long term.
Net Profit: The Final Score
At the end of the day, the target is what appears at the bottom of the page: the net profit. The ability to read the P&L and understand what is impacting the net profit either positively or negatively empowers us to take targeted action to improve results. Without that, we risk working hard and not making enough money. Many businesses in our industry face this fate.
Resetting Your Game Plan for Success
As you look at your first-half numbers, take time to understand what they mean. This will help you adjust your plan for success in the second half. This may mean changing the players, the plays, or your leadership approach. Understanding your numbers is the first step in winning the game and achieving your long term goals.
