Only three ways

 

BY ELLEN ROHR

contributing writer

 

Once upon a time, business mogul, Warren Buffet, bought the Washington Post newspaper. The previous owner and publisher at the time was Katharine Graham. Ms. Graham is one of my heroines. Her father built the paper and transitioned it to Phil Graham, Katharine’s husband. Katharine took on the publishing duties when her husband committed suicide. She guided the newspaper to editorial greatness, and navigated the Watergate scandal as Bernstein and Woodward reported it on the front pages. But the company was in financial trouble.

 

Warren Buffet’s business building strategy is this: Seek out companies with undervalued, underutilized assets. Buy them. Fix them. Make lots of money.

 

He bought the Washington Post with that intention. He and Katharine hit it off immediately and he saw the potential in the newspaper and in her management. So he sat her down and taught her business basics. From what I have read about this powerhouse relationship in their biographies, they had a conversation something like this:

 

Warren: This is the Balance Sheet. Assets on the left, liabilities and equity on the right.

 

The Balance Sheet reflects the financial condition of the company on a specific date. The basic accounting formula is the basis for the Balance Sheet:

 

Assets = Liabilities + Owner’s Equity

 

ASSETS: The “stuff” the company owns. Anything of value — cash, accounts receivable, trucks, inventory, land.

 

LIABILITIES: These are sources of assets — how you got the “stuff.” These are claims against assets by someone other than the owner. This is a reflection of what the company owes. Notes payable, taxes payable and loans are liabilities.

 

EQUITY: Equity includes funds that have been supplied to the company to get the “stuff.” Equity also reflects ownership of the assets earned through profitability. Equity shows ownership of the assets or claims against the assets, a reflection of what the company owns.

 

As a business owner, Job One is to protect the assets. Job Two is to grow the assets. There are only three ways to grow assets”

 

1: Borrow money.

You could borrow money; assets go up and a Note Payable (a liability) goes up.

 

2: Invest money in the Company.

When you (or another owner/investor) puts money in the company, assets go up and Paid- In Capital an equity account) goes up.

 

3: Create a Profit

When you sell stuff for more than it costs, you’ll create a profit. Net Profit is reflected in the equity section of the Balance Sheet. If Net Profit (an equity account) goes up, assets go up, too. This is really the best way to increase assets, to create wealth. Sure you have to pay taxes on your profits, but that’s the price you pay to live and work in this fine country.

 

Sometimes investing money in a company can buy time, or equipment, that will help build the profitability of the company.

The Balance Sheet is an elegant demonstration of a universal law: for every action there is a reaction. Energy isn’t lost; it changes form. Isn’t this beautiful? Isn’t this fun?

 

Katharine: It is! I get it. Let’s make some money and make a positive impact on the world!

 

I like to imagine the conversation between Warren and Katharine this way. Warren Buffet loves business and capitalism and his enthusiasm is contagious. You can manufacture money out of nothing by creating something other people value.

 

You can take a struggling company and fix it. It’s a beautiful thing.

 

If you are scratching your head right now, it could be that you don’t get the Balance Sheet. Or maybe your Balance Sheet isn’t quite so elegant at the moment. Too much liability? Too little in assets? Let’s do a little sleuthing and discover what the Balance Sheet has to share. It’s helpful to know the Score in the game of business. You can always make it better.

A sample Balance Sheet is shown at the upper right. Suppose this is your company and this is your first year in business. Let’s take a look at what this Scorecard tells us about the financial health of the company, particularly when it comes to protecting and growing the assets.

 

Quick Ratio and Debt-to-Equity Ratio

The Quick Ratio is a look at what you have in Cash and Accounts Receivable compared to what you have in Current Liabilities.

 

1-1110: Cash 2,459

 

1-2100: Accounts Receivable 19,870

 

Total $22,329

 

Total Current Liabilities $35,642

 

22,329 ÷ 35,642 = .63

 

In other words, you have 63 cents for every dollar you need to cover your bills. .63 to 1. Not good. Also, most of that money is tied up in Accounts Receivable. Time to collect! Set a goal of getting this ratio to at least 1.5, or $1.50 in Cash and Accounts Receivable for every $1 in Current Liabilities.

 

The Debt-to-Equity Ratio is a look at your Total Liabilities to your Total Equity.

 

For every dollar you have in equity you have $25 in liabilities. 25 to 1. The amount of debt you carry is up to you, and what you are comfortable with. Consider aiming for a Debt to Equity ratio of 3 to 1. Maybe you would like to be debt free? Know this — the banks and the supply houses are not going to manage this for you unless you stop making your payments.

Gulp. You are operating at a loss, losing wealth and increasing debt. Time to change course. As Hot Rod has told me when I am losing an argument, “When you are digging a hole for yourself, it’s a good idea to stop digging.”

 

You could fix this! Like Warren Buffet.

 

This Balance Sheet is a simple example. (Dear accounting folks, please no nitpicking. My numbers are made up to illustrate common problems.) According to this Balance Sheet, your company is in trouble. You are running out of cash and your assets are dwindling. Profits fix lots of problems — these problems specifically. If you could increase profits by, say, $10,000 before this month is over, you would see assets go up. If those profits were delivered to the asset of Cash, not Accounts Receivable, even better. You could pay down your Current Liabilities. Your ratios would improve. Life would get better for you. So, craft and execute a plan for improving Marketing, Sales, Operations; whatever you choose that will impact profitability and cash.

 

Business is easy. As Jim Rohn said, “Easy means something you can do.” You can do this.

 

Into and out of the company

 

One more thing: Discuss with your CPA how you should reflect the money you put into and take out of your company. Not only will it affect these ratios, your actions have tax implications.

 

You might put cash into your company and call it a liability, a Note Payable to you. However, Uncle Sam wants to see that loan treated as a real loan, with loan documents, interest paid and payments made. You might take money out of the company and call it an asset, an Account Receivable from you. Uncle Sam might see that and call it income that you haven’t paid taxes on. I vote that money into and out of the company by the owner is reflected in the equity section of the Balance Sheet. Then, review quarterly with your CPA to consider your tax exposure and strategy.

 

The problems are where the game is, where the fun is! Really. Don’t panic. Review your financial situation and vow to make it better.

 

Does this help? I hope so! Questions, comments, challenges? Reach me at contact@barebonesbiz.com   

 

Xo$, Ellen                 

 

Al Levi and I are offering an amazing new program. It’s all about less stress and more success. Focusing on the right things, one step at a time. And you can try it for $1. Check it out at www.StepByStepBusinessBuilding.com.