FINANCE 101 - Finance for non-financiers

DISCLAIMER: This is NOT a finance degree. It is a dummies guide to understanding finance. Can you not see the ridiculousness here!? A sales and marketing guy is teaching finance! And with all our expectations managed, let's do this...

First lesson: Finance is boring.

It is just numbers balancing on a spreadsheet. That is all.

In saying that it can be pretty exciting when you are in year on year (YoY) profit growth.

The reality is, the numbers are actually really easy. EVERYTHING MUST BALANCE. That’s all. If income doesn’t match expenses – boom – the difference is your Profit or your Loss. Any calculator or spreadsheet can do the numbers thing for you. That’s the easy (and boring) part.

Second Lesson: It can be scary as all hell.

But alas, I will breakdown that fear.

Y’see Finance departments and accountants the world over have made it scary. Not for the math, but because of their bloody English.

That’s right, our geeky commercial brethren have complicated the shit out of finance by giving things weird and wonderful names, and just to make it even more colourful they have given multiple names to the same thing. In my mind, that’s worse than what the marketers do with all their fluffy buzz words.

Understanding what they’re talking about will be the first step towards getting to understand finance just that little bit better. So, as a Finance introduction for you, here is a list of their terms and what those financiers actually mean.

First, I will go through the three main documents, starting with the Income Statement and then some basic commonly used Commercialese language decoders at the bottom too.

CAUTION: These are 3 distinct & different statements that Commercial guys use. Do not get them confused with each other, they are VERY DIFFERENT. They connect and balance with each other depending on the income or expense and can help you immensely understand and run your business better. Whether it is logical to you yet or not, it DOESN’T matter. Just understand it is the case. Alright, on we go…

1. The Income Statement (aka Profit / Loss statement or P&L)

This is a record that summarises total revenue generated and total expenses incurred over a set period of time.

It has 5 main areas that are all added and subtracted from each other to show the company or department’s profit or loss over a determined period of time (usually annually for tax and other reasons). These 5 areas include:

Revenue. Also referred to as: Sales, Turnover and Income

This is the gross amount (minus GST) received by the company for goods or services tendered. Its other reference is the “Topline” number, because it is always at the top of the Income Statement.

COS: Cost of Sales. Also: COGS (cost of goods sold). It is the DIRECT cost of generating your revenue. Simple.

Gross Profit. Otherwise referred to as GP or contribution. This is just simple math: Revenue minus Cost of Sales. Boom - Easy!

GP = Revenue - COGS

Something that is handy to figure out is GP Margin or GP%.

This is simply GP$ divided by Revenue x 100.

NOTE: This is NOT the “mark –up”. That is a different formula.

Overheads. Or operating costs. These are the expenses of running the business (largely regardless of sales) during the period. Examples include administration, rent, vehicles and paying your chartered accountant to do the annual reports.

Operating Profit. This can also be known as Earnings Before Interest and Tax (EBIT) or the lesser used Earnings Before Interest Tax Depreciation and Amortization (unless you are a dot com trying to disguise your company at a loss). Operating Profit is another simple math equation: Gross Profit minus Overheads.

EBIT = GP - Overheads

Finally Net Profit, or the bottomline (because it is the bottomline of a P/L) is the final profit number. This is Operating Profit minus any interest payments and tax owing (not GST).

The Net Profit is a positive or negative number depending on whether or not the business, during that period, made a profit or a loss.

P.S. Brackets in Finance mean a negative – so a (bracket) on the bottomline is a loss.

I am not going to get into “why” now, but do NOT confuse profit on an income statement to equal cash in the bank. This is where a lot of new businesses fall over. For reasons that I will explain in another post, time is a ‘mystic’ thing in an Income Statement. I know it sounds weird. Just trust me.

QUICK TIP:

No Income Statement should have GST anywhere in there. For reasons why, read: GST = Made real f****n simple

2. ​The Balance Sheet

The Balance Sheet is a key financial document. Its format will differ from business to business but the key elements should remain the same. I liken it to a carpark in-between the bank account and P/L sheet. A financial “Matrix” if you will.

It is a statement that gives the snapshot of the financial position of a business at a given time.

It is split into two separate areas: The top is what the business owns, otherwise known as Assets: Current and Non-Current.

Current Assets. Short term assets such as inventory, money owed by customers and cash in the bank.

Non-Current Assets. These are Long term assets and are most commonly: property, plant and equipment and investments.

The bottom half of the Balance Sheet are the Liabilities. This is what the business currently owes. Again, broken down by Current and Non-Current and Equity.

Equity. This is money owed to the owners (or shareholders) and split into two areas: Share Capital (capital invested into the company by shareholders) and Retained Earnings or Retained Profits (same thing). These are previous years’ profits that are not distributed and retained in the business for future use. They are owed to the shareholders and need to be recorded as a liability.

Current Liabilities: Short term liabilities like current supplier invoices yet to be paid.

Non-Current Liabilities: Long term liabilities such as bank loans.

QUICK TIP:

A balance sheet should always balance.

3. Cashflow Statement or Projections

The actual bank account and a key indicator as to the company’s liquidity or solvency.

This is where many businesses die. They fail to manage cashflow. They over-extend on loans or don’t understand the concept of cashflow management within their industry.

Do not let this be you.

I will explain more on HOW to manage Cashflow in a later post. I am sticking to the basics here.

There is a cashflow projection and a cashflow statement. The projection is for predicting the cash situation of the business in a selected future period. The statement updates the actual situation for the previous time period.

The cashflow projection is the most powerful tool for a new business owner.

It is retardedly straightforward but the cashflow statement simply outlines the cash received and spent through either business operations or business investments.

REMEMBER PROFIT DOES NOT MEAN CASH IN THE BANK.

So there you have it. Wow, I actually feel genuinely deflated after writing all that. I truly believe I am instant sex repellent right now. I know I promised “Commercialese” jargon; I will do it in another article and post a link here though.

Here is the link. If it works I’ve done it. If it doesn’t, I haven’t.

Later.

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