By Fred Parrish
Every truly successful businessperson I have ever known has had an uncanny sense about the very heart and soul of their respective businesses – they “feel it in their bones.” They instinctively know the financial outcome of every decision and every action before it is taken.
This is not to say they know every detail or they know to the penny the outcome of all their decisions. In fact, they make their share of mistakes just like everyone else. However, they do somehow make many more good decisions than not, and when a result is negative it does not seem to be as severe. It is this positive shift in the decision dynamics that consistently improves the performance of their companies.
Often companies get into trouble when managers make costly errors in judgment. This happens because of our tendency to employ heuristics — rules of thumb, or mental shortcuts — “to simplify and, worse, oversimplify decisions under uncertainty,” Edward Teach says in Avoiding Decision Traps (CFO Magazine, June 2004.)
The Merriam-Webster dictionary defines heuristic as “involving or serving as an aid to learning, discovery, or problem-solving by experimental and especially trial-and-error methods.” The danger is that unless a well-grounded system is in place to provide sufficient objective information, over time a heuristic approach can lead you astray, causing you to make poor decisions that can harm the profitability of your business, or worse, lead to failure.
Certainly some decisions will have greater impact than others. However, even the smallest decisions will have an impact on some level, and the cumulative affect of all decisions will define your company’s success or failure.
Dangerous situational dynamics are created when managers do not have objective systems in place to collect key factual information that can mitigate the use of convenient “facts” or the predisposition of being too certain of personal opinions.
To combat this tendency, you as a small business owner have a responsibility to make sure all decisions in your company are grounded in what I call a “Profit Mentality.” A Profit Mentality means each member of an organization, from the top down, views every decision through a profit-oriented frame of reference.
When you foster a Profit Mentality, you significantly improve the odds of avoiding the decision traps that exist in every business environment. Start by making sure everyone in your company knows these three facts:
- Cash is the Lifeblood of Your Business: Research has found poor cash-flow management is to blame for as many as 82 percent of startup and small business failures. Although profits are defined as “a valuable return,” the reality is that you cannot actually “spend” profits, so you must have sufficient cash available to fund the company’s operations until conversion occurs. Since there is nothing tangible returned by profit alone, the logical conclusion is without cash conversion there is no REAL profit; therefore, it would follow that cash flow is the true profit indicator.
- Profitability and Cash Flow are Inextricably Linked: You must have profits to produce cash and you must have cash to produce profits. The cycle cannot be broken indefinitely without seriously negative results.
- There is No Free Lunch: Ultimately cash will be required to purchase each item you consume in the business whether it’s for labor, direct materials, overhead or sales and administrative costs. And that cash will have to come from somewhere (either from operations or other outside funding). Although the situation is somewhat fluid, the reality never changes: you must produce long-term profits to survive.
The degree to which this information is disseminated to all your employees will be the key to success. Every staff member must be trained in profit management so that each decision will be based on sound financial management techniques. The odds of success increase exponentially when every decision in the organization is made with this approach.
Fred Parrish is Founder and Chief Executive Officer of The Profit Experts™, an affordable CFO service that helps small business owners improve their profitability and cash flow. He is also creator of The Profit Beacon™, a new app that provides predictive analytics to help businesses make smart and timely decisions, and author of “The Profit Mentality.” For more information please visit www.TheProfitBeacon.com and @TheProfitBeacon on Twitter.