Financial Review Workshop

Colin King, CPA, CFA

Where we are

2

Step 2 of the Financial Operating System.

1

Plan properly

2

Monitor financial position

3

Cost structure (price, volume, cost)

4

Manage cash flow

5

Manage growth

6

Capital management

7

Plan for transition

Quick poll: what's in your review process?

3

Hands up for the one that sounds most like you.

A

I don't really have one

I check the bank balance and my gut.

B

I look at the P&L

Usually when the bookkeeper or CPA sends it.

C

I compare periods

This month vs. last month, or vs. last year.

D

I track a scorecard

A set of metrics I review every month.

Goals for today

4

01

Read

the financials

Understand what each statement measures and how they’re connected

02

Interpret

the financials

Spot what's going well and what's going poorly (the “story” behind the numbers)

03

Use

the financials

Turn what you find into actions that fix problems and add value

Reading the financials

5

6

"If you don't understand the accounting, you don't understand the business."

Charlie Munger

How to read financials

7

Assets = Liabilities + Net Worth

Sales�

Net Profit

Uses of Profits:

1. Pay for new assets
2. Pay off debt
3. Pay out to owners

Efficiency

Balance Sheet

Income Statement

The Financial Operating Cycle

The Financial Operating Cycle

8

How money moves through every business.

Assets

Buy things (assets) to drive sales

Liabilities & Equity

Pay for assets with liabilities/equity

Sales

Turn assets into sales

Use profits

Buy assets, pay debt, pay owners

Measure efficiency of each step and repeat

Net profit

Turn sales into profit

Anatomy of the Income Statement (P&L)

9

Measures a period of time (month, quarter, year, YTD, etc.)

1

2

3

Measures of Profitability:

​

(1) Gross Profit = is each sale making money

​

(2) Operating Profit = core business (before one-off, non-recurring expenses, interest, etc.)

​

(3) Net Profit = entire business including everything (what’s left for the owners)

Direct costs (COGS) = make or deliver

• Freight
• Materials
• Direct labor
• Subcontractors
• Credit card fees

Indirect costs (overhead)

• Sales & marketing
• Administrative payroll
• Rent
• Insurance
• Software
• Professional fees

Anatomy of the Balance Sheet

Retained Earnings = cumulative lifetime profitability (net profit)

Measures a point in time (single day)

Current Assets = cash or expected to turn into cash within next 12 months

Current Liabilities = expect to pay within the next 12 months

Assets = revenue-generating

​

Liabilities & Equity = funding sources

Fixed Assets = property, equipment, machinery, vehicles, etc. over a certain $$ amount expected to last more than a year

Anatomy of the Cash Flow Statement

Measures a period of time (month, quarter, year, YTD, etc.)

3 Sections:

​

(1) Operating = cash produced from core business activity (starts with profit)

​

(2) Investing = purchases (or sales) of long-term assets

​

(3) Financing = borrowings or repayments from loans; and contributions or distributions from owners

These add up to your “net change in cash” or net cash flow

Reconciles net profit and cash flow

Commonly overlooked aspects

12

Lots of time periods to choose from

Statements are related, activity in one will likely impact another

Principal payments on loans will never show up on your P&L

Owner distributions will never show up on your P&L

Depreciation is non-cash, leave it below the operating profit line

Anatomy of the P&L

13

Measures a period of time: a month, quarter, year, or year to date.

THREE MEASURES OF PROFIT

1. Gross profit

Is each sale making money?

2. Operating profit

Is the core business making money? Before one-offs and interest.

3. Net profit

Everything included. What's left for the owners.

WHERE COSTS GO

• Direct costs (COGS): what it takes to make or deliver. Materials, freight, direct labor, subcontractors, card fees.
• Indirect costs (overhead): what it takes to run the company. Admin payroll, rent, insurance, software, marketing, professional fees.

Anatomy of the balance sheet

14

Measures a single point in time: one day.

WHAT'S ON IT

Current assets

Cash, or expected to turn into cash within 12 months.

Fixed assets

Property, equipment, vehicles. Expected to last more than a year.

Current liabilities

Expected to be paid within 12 months.

Retained earnings

Cumulative lifetime profit, less distributions.

HOW TO THINK ABOUT IT

• Assets are revenue-generating tools.
• Liabilities and equity are how you paid for them.
• Retained earnings is your lifetime scoreboard.

Anatomy of the cash flow statement

15

Measures a period of time and reconciles profit to cash.

THREE SECTIONS

1. Operating

Cash from core business activity. Starts with net profit.

2. Investing

Purchases or sales of long-term assets.

3. Financing

Loans, repayments, owner contributions and distributions.

WHY IT MATTERS

• The three sections add up to your net change in cash.
• It explains why profit and cash don't match.
• We'll build a simpler version in Workshop 3.

How it works

16

How it works

17

How it works

18

How it works

19

How it works

20

Ending financial statements after those 8 days

P&L

Sales

25,000

COGS

(10,000)

Gross profit

15,000

Wages and rent

(8,000)

Depreciation

(1,000)

Net profit

6,000

CASH FLOW

Collected

25,000

Cash expenses

(28,000)

Capex

(10,000)

Cash flow

(18,000)

BALANCE SHEET

Cash

32,000

Inventory

10,000

Truck, net

39,000

Loan

27,000

Equity

54,000

Assets = L + E

81,000

Loan principal

(3,000)

Distributions

(2,000)

The Monthly Financial Review

21

The Monthly Financial Review (MFR)

22

A Monthly Financial Review (MFR) in three steps.

Step 1

Prep

The right reports in the right format with the right visuals

A clean view of the numbers.

Step 2

Trends

Read across time and within each period.

Your trends tell the story.

Step 3

Scorecard

10 to 15 metrics on one page.

Your ratios tell you the health.

Step 1: Prep

• The right reports
• The right format
• The right visuals

23

The Right Reports

24

Every view has a use case; use them all.

The Right Format

25

From dozens of accounts down to 7 to 10 lines. Easy to read, easy to spot trends.

BEFORE

60+ accounts

Six kinds of payroll

Four kinds of insurance

Software split across five lines

...

AFTER: CONDENSED P&L ($000S, EXAMPLE)

The Right Reports

26

From dozens of accounts down to 7 to 10 lines. Easy to read, easy to spot trends.

BEFORE

60+ accounts

Six kinds of payroll

Four kinds of insurance

Software split across five lines

...

AFTER: CONDENSED P&L ($000S, EXAMPLE)

The Right Format

27

Take this…

And turn into this…

Make everything easier to read. Spot trends & patterns quickly.

28

Zooming out

When running a business, you need to fly around at 30,000 feet to see the big picture…

​

Take the plane lower to get a closer look, then land the plane to fix specific problems you’ve discovered.

The Right Visuals

Pictures make it easier to spot trends & patterns.

The Right Visuals

30

REVENUE GROWTH, YEAR OVER YEAR

FIXED COSTS, MONTHLY

Pictures make it easier to spot trends & patterns.

Step 2: Trends

• Horizontal & vertical analysis
• Establish your baseline
• Operating leverage

31

Horizontal & vertical analysis

32

Horizontal

Left-to-right ($ & %)

Allows us to compare dollar trends, margin (%) trends, and growth rates over time (direction of business).

• Left & right
• Direction

Vertical

Up-and-down (%)

Allows us to compare different time periods (i.e. 2019 vs. 2025) or different company sizes ($1 million revenue vs. $10 million revenue).

• Up & down
• Efficiency
• Benchmark

​

Horizontal & vertical analysis

33

The story: revenue increased, but now falling. Operating margins (EBITDA) continue expanding (increased efficiency), but profit dollars (EBITDA) ~flat.

Find your baseline

34

Your numbers will NOT be perfectly linear. Don’t stress over precision; instead, find your baseline performance levels.

​

Example: gross margin between 40% and 45%.

30%

35%

40%

45%

50%

55%

Healthy

Investigate

Investigate

Outside the range in either direction is a signal to investigate.

What to look for

35

Growth

Sales, gross profit, operating profit, net profit

Margin trends

Are you getting more or less efficient?

Operating leverage

What are the fixed cost trends?

Net working capital

Receivables, inventory, payables

Debt

How much, and is it comfortably serviced?

Cash flow

Does profit turn into cash?

Top expense accounts

What changed, and did it help or hurt?

Why is it so important to know your fixed costs?

36

Fixed vs. variable costs

37

Variable costs

Move up and down with sales.

• Materials and freight
• Direct labor and subcontractors
• Sales commissions
• Card processing fees

Fixed costs

Stay about the same whatever you sell.

• Rent and insurance
• Salaries and admin payroll
• Software subscriptions
• Loan payments

Fixed vs. variable costs

38

In dollar ($) terms:

In percentage (%) terms:

Why is this so powerful?

39

Operating leverage

How much is fixed?

High fixed-cost businesses grow profits at a faster rate as revenue grows

Profit also falls at a faster rate as revenue declines

Operating leverage

40

Two businesses with $1M revenue, $100K profit, and varying cost structures. What happens as sales grow?

Is your business a high fixed cost business or a low one?

• High fixed costs magnify results (both up & down).
• Sales growth “drops to the bottom line,” and so does a decline. Know your cost structure before scaling overhead.

Let’s practice…

41

Income statement

• Identify direction of revenue (growing, declining, or stable)

42

Income statement

• Identify direction of revenue (growing, declining, or stable)
• Identify direction of gross profit and net profit

43

Income statement

• Identify direction of revenue (growing, declining, or stable)
• Identify direction of gross profit and net profit
• Which costs took biggest bite out of profitability?

44

Income statement

• Identify direction of revenue (growing, declining, or stable)
• Identify direction of gross profit and net profit
• Which costs took biggest bite out of profitability?
• Common-sizing = different view

45

Where’s the leak?

46

Leaks are always identifiable!

​

2.5%

x $2.2m

= $55,000

Does this business have a fixed cost or variable cost problem?

Balance sheet

• Cash flow problems?

47

Balance sheet

• Cash flow problems?
• Where did it go?

48

Balance sheet

• Borrowed money to pay for assets
• Funded growth through suppliers

49

Balance sheet

• Borrowed money to pay for assets
• Funded growth through suppliers
• Reinvested some profits, but smaller amounts
• No dividends 😔

50

One more…

51

Income statement

• Identify direction of revenue (growing, declining, or stable)

52

Income statement

• Identify direction of revenue (growing, declining, or stable)
• Identify direction of EBITDA and net profit

53

Income statement

• Identify direction of revenue (growing, declining, or stable)
• Identify direction of EBITDA and net profit
• Which costs took biggest bite out of profitability?

54

Income statement

• Identify direction of revenue (growing, declining, or stable)
• Identify direction of EBITDA and net profit
• Which costs took biggest bite out of profitability?
• Common-sizing = different view

55

56

“Never forget what it is you’re trying to do.”

Charlie Munger

Find your “most important thing”

57

What are the 3 to 5 key financial factors for your company right now?

IF YOU'RE...

High debt

Watch: Liquidity and solvency

IF YOU'RE...

Growing fast

Watch: sales and marketing, efficiency, working capital

IF YOU'RE...

Unprofitable

Watch: Cost structure and breakeven point

IF YOU'RE...

Mature business

Watch: Earnings power and working capital

Step 3: Scorecard

• Picking the right ratios
• Using your scorecard

58

The ratio scorecard

59

One pager with 10-15 “most important” metrics which measure the financial health of your business.

• Built around your “most important thing(s)”
• Use in tandem with trends review
• Find your baseline performance
• Everything on a single page
• Updated every month

SAMPLE

Metrics tie the statements together

60

A ratio is a relationship between two numbers, often from two different statements.

%

Percentage

Gross margin = gross profit / sales

x

Multiple

Current ratio = current assets / current liabilities

$

Dollars

Revenue per employee

d

Days

Receivable days = receivables / sales x 360

Reading a multiple: for every $1 of the bottom number, there's $X of the top number. A 2.0x current ratio means $2 of current assets for every $1 due this year.

How to build it

61

Gather your financial reports from Step 2

01

Pick your ratios

Write down your most important thing(s), then circle the 6 to 10 metrics to measure them.

02

Track monthly

Update each month and identify a normal range (baseline) for each ratio.

03

Add peer benchmarks

If available, add benchmark ratios to compare against your own.

04

Investigate issues

When ratios fall outside your baseline (or peer benchmarks), investigate for potential causes.

Which metrics to use?

Earnings power

Growing and profitable?

Sales growth

Sales ÷ last year sales

Profit growth

Profit ÷ last year profit

Gross margin

Gross profit ÷ sales

Operating margin

Operating profit ÷ sales

Contribution margin

Contribution margin ÷ sales

Net margin

Net profit before tax ÷ sales

Staying power

Can it pay bills and debt?

Current ratio

Current assets ÷ current liabilities

Quick ratio

(Cash + A/R) ÷ current liabilities

Debt to equity

Total liabilities ÷ equity

Leverage

Total liabilities ÷ operating profit

Interest coverage

Operating profit ÷ interest

DSCR

Operating profit ÷ debt service

Efficiency

Are resources productive?

Return on assets

NPBT ÷ assets

Return on equity

NPBT ÷ equity

Return on invested capital

Op. profit ÷ (debt + equity)

Asset turnover

Sales ÷ assets

Labor efficiency ratio

Gross profit ÷ direct labor

ROAS

Ad spend ÷ attributed sales

Marketing efficiency

Marketing ÷ sales

Discount rate

Discounts ÷ gross sales

Working capital

How long is cash tied up?

Receivables turnover

Credit sales ÷ receivables

Days sales outstanding

360 ÷ receivables turnover

Inventory turnover

COGS ÷ inventory

Days inventory on hand

360 ÷ inventory turnover

Payables turnover

COGS ÷ payables

Days payable outstanding

360 ÷ payables turnover

Cash conversion cycle

DSO + DOH − DPO

List of core ratios

10 metrics to start with (starter kit)

63

Not the only 10. A starter kit you'll tailor to your most important thing.

EARNINGS POWER

1 Revenue growth

2 Gross margin

3 Operating margin

LIQUIDITY AND SOLVENCY

4 Current ratio

5 Quick ratio

6 Debt to equity

WORKING CAPITAL AND EFFICIENCY

7 Receivable days

8 Inventory days

9 Payable days

10 Sales to assets

Earnings power

64

1

Revenue growth

(This period - last period) / last period

Direction of the business. Compare to inflation and your market.

2

Gross margin

Gross profit / revenue

Is each sale making money? Pricing, buying, and labor show up here first.

3

Operating margin

Operating profit / revenue

Is the core business profitable after overhead?

Liquidity and solvency

65

4

Current ratio

Current assets / current liabilities

Can you pay the next 12 months of bills? Below 1.0x is a warning.

5

Quick ratio

(Cash + receivables) / current liabilities

Same test without inventory. Can you pay bills without selling stock?

6

Debt to equity

Total liabilities / equity

Who's funding the business: lenders or owners? Higher means more risk.

Working capital and efficiency

66

7

Receivable days

Receivables / revenue x 360

How long customers take to pay you.

8

Inventory days

Inventory / COGS x 360

How long product sits before it sells.

9

Payable days

Payables / COGS x 360

How long you take to pay suppliers.

10

Sales to assets

Revenue / total assets

How hard your assets work. Revenue per $1 of assets.

Add benchmarks

67

Your history tells you if you're improving. Benchmarks tell you if you're competitive.

Industry composites

Published financial ratios by industry and company size, such as RMA Annual Statement Studies. Your banker likely has access.

Trade associations

Many publish member surveys on margins, payroll, and pricing.

Peers

Your forum and peer groups. Trade ranges, not exact numbers.

Public companies

Larger competitors file their financials. Good for direction, not size.

Building a scorecard

68

Ratio scorecard

69

LAYER 1 OF 5: ANCHOR

Start with overall performance

1. A high-level view of the trend in revenue and profit.
2. Here, the trend is improving.

Ratio scorecard

70

LAYER 2 OF 5: EARNINGS POWER

Growth and profitability

1. Is revenue growing or declining?
2. Are profits growing or declining?

Ratio scorecard

71

LAYER 3 OF 5: STAYING POWER

Overall balance sheet health

1. Can you pay the bills?
2. Can you pay the loans?
3. How much debt is there?

Ratio scorecard

72

LAYER 4 OF 5: EFFICIENCY

Productivity

1. Are marketing dollars working?
2. How productive are direct and overhead employees?

Ratio scorecard

73

LAYER 5 OF 5: COST STRUCTURE

Expense management

1. How well are fixed costs being managed?
2. How is breakeven changing over time?

One more

74

Eight periods of a young, fast-growing business. What story does it tell?

Practice

75

Case 1: Quest Resource Holding (QRHC)

76

A real public company. Nasdaq listed. Results from its SEC filings.

THE BUSINESS

• Manages waste and recycling programs for large national customers
• Uses a network of independent vendors to do the hauling
• Bills the customer, pays the vendor, collects a fee

YOUR JOB

1. It's early 2017. Here are the last three years.
2. What are the key trends?
3. What's the most important thing?
4. What would you do?

QRHC P&L (2013-2016)

77

$000s, years ended December 31.

LOOK FOR

• Revenue direction
• Gross margin trend
• Overhead vs. gross profit
• Profit direction

Source: Quest Resource Holding Corp. Form 10-K for 2014, 2015 and 2016; Form 8-K for Q4 2014. 2013 includes Quest only after its July 2013 acquisition, so 2014 growth is not meaningful; 2013 operating loss also includes $3.4M of other expenses not shown. Net profit includes interest and other items.

QRHC balance sheet (2013-2016)

78

$000s, December 31.

LOOK FOR

• Cash trend
• Receivables vs. payables
• What makes up total assets
• What's happening to equity

Source: Quest Resource Holding Corp. SEC filings (Form 10-K, 10-Q, 8-K). Some smaller line items not shown, so lines won't sum exactly.

Your turn: what would you do?

79

10 minutes at your table. Be ready to share one answer for each.

Trends

What are the three most important trends?

Most important thing

If you could only fix one number, which one?

Action

What would you do in the next 12 months?

Risk

What could go wrong with your plan?

What happened next

80

Revenue fell 44% from 2016 to 2018. Gross profit went up.

Source: Quest Resource Holding Corp. SEC filings, 2014 to 2018.

QRHC scorecard (2014-2018)

81

Calculated from SEC filings. Adjusted EBITDA as reported by the company: ($1.5M) in 2016, $0.8M in 2017, $2.3M in 2018. Days use a 360-day year.

Case 2: Nike today

82

$ millions, fiscal years ended May 31.

YOUR JOB

1. What are the key trends?
2. Which ratios worry you?
3. What would you do?

Source: NIKE, Inc. FY2023 Form 10-K; Q4 FY2025 and Q4 FY2026 earnings releases (Form 8-K). Operating profit = gross profit less demand creation and operating overhead.

Nike: condensed scorecard

83

THE TWISTS

• What trends concern you most?
• What actions would you be taking today?
• What does Nike need to investigate further?

Source: NIKE, Inc. FY2023 Form 10-K and Q4 FY2026 earnings release. Nike says a $986M IEEPA tariff recovery added about 900 basis points to Q4 gross margin. Days use a 360-day year.

Key takeaways

84

01

Financial Operating Cycle

The flow of money through your business.

02

Monthly Financial Review

Prep, trends, scorecard. Repeat monthly.

03

Find the most important thing

3 to 5 factors that matter most right now.

04

Scorecard

10 to 15 metrics with healthy ranges.

05

Look closer

Headlines hide trends… keep asking “why” until you find the cause.

Workshop 2: Cash Flow

Up next

Colin King, CPA, CFA