Final Housekeeping ….

April 27, 2010

This will conclude this round of posts on basic financial practices of a system integrator. Sure, there are a lot more to discuss. But for those of us engineers, we have to keep this in small doses. Before I let you go, here are a couple more fundamentals.

Taxes

As the old saying goes, the only thing that is certain is death and taxes. Alliance Partners can’t escape this reality. Hopefully, death isn’t just around the corner, but taxes will be. So, you need to have a reliable process to account for and pay for taxes. While taxes may vary from geography to geography, they generally fall into two categories:

  1. Sales taxes – Taxes on the goods and services that you sell. Do you have adequate measures to ensure that these are properly calculated, collected, and paid (to the appropriate government institution)? This includes exempt certificates for clients that don’t get charged tax on the products and services they buy.
  2. Payroll taxes – Taxes due from the payments that you make to your employees. Typically, this is the money that they owe the government, but are commonly withheld by the company and paid to the government directly. How do you know that you are deducting the proper amount and paying that amount to the proper authority?

Miscellaneous

Perhaps, it goes without saying, but you should have processes to handle any other aspects of your business such as support contracts and services calls – how are they billed? When is the revenue recognized? You may also have additional products that you sell or material that you resale. Consider whether is a separate financial process to account for this business.

And, finally, you should have a defined practices for the handling of your financial records. Are they kept in an orderly manner and in a secure location? Do you have adequate measures to protect important financial information (e.g. duplicates of important documents, insurance certifications, account numbers, ….)

On my way to CSIA

I’ll be at the CSIA Conference on April 29-May 1. If you are tuned into this blog, you’ve probably already heard me talk about the Control Systems Integrators Association, an organization primarily of people who manage SIs who dedicated to the betterment of system integration by sharing best practices and promoting the recognition and importance of excellence. I look forward to their conference each year to learn from these experts – which I can, in turn, share with you. I look forward to seeing those of you who will be there to hear for yourself.

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Billing and purchasing

April 20, 2010

Getting paid in a timely manner for the work that you perform is critical to your profitability. So, you should define and manage your billing processes. Here are a couple of key areas.

Are quotes correlated with invoices?

Seems obvious, but care should be taken to make sure that your invoices match the quotes to which the customer has agreed. In doing so, you can greatly reduce confusion during the billing process that can result in unnecessary delays in receiving your payment. Not to mention the potential re-work.

Change Orders

It is amazing that some companies go to the effort to charge a customer for a change order, but lack the coordination on the back-end to ensure that it gets properly billed and paid. So, implement a process to ensure that you account for change orders. For instance, some Alliance Partners include a financial verification that the customer has paid all outstanding bills, before they can close a project.

Accounts Receivable

There should be a defined process to monitor your accounts receivables. Set metrics (e.g. average days outstanding) that you can monitor and work to improve.

Then, establish a process to escalate and pursue overdue accounts. This may be a function of how long it is overdue as well as how much is outstanding. Whatever works for your company – just define it and stick to it.

Accounts Payable

You should also define similar processes for purchasing to ensure that you make timely payments. I know, I know – sounds like a vendor just wants to get paid on time (and we do). But, more importantly for your business,  you can avoid problems (e.g. additional charges, credit hold, ….)


Accounting and Budgeting

April 13, 2010

As a system integrator’s business grows to take on more projects, it is important to get a handle on your finances. How is money being allocated and spent? Are the expenses being documented and accounted for?

Chart Your Course

Another basic financial process is defining your ‘Chart of Accounts’. This is a list of well-organized list of ‘accounts’ to which you can assign your financial transactions. For instance:

  • Asset (100s) Resources: cash, building, inventory, receivables
  • Liability (200s) Obligations: payables, loans, accrued interest
  • Equity (300s) Residual assets after deducting liabilities
  • Revenue (400s) Earnings: Sales, service revenue, interest income
  • Expense (500s) Expenditures: bills, rentals, depreciation, insurance

There are lots of examples of Chart of Accounts that you can find by searching the web such as this one by Small Business Notes. If you already have an accounting package, it may have a suggested format as well. After picking one, make sure that the costing codes are well-documented and consistently used, so you can enhance your financial accounting and reporting.

Within Your Budget

Once you have a reliable Chart of Accounts for tracking your expenses, it becomes much easier for you to create and monitor your budget. This will not only help you to adequately control expenses, but to plan for necessary expenditures.

The budgeting process starts with the defined account codes and allocations for each of those areas, including plans for capital expenditures. Then, monitor the budget on a regular basis and analyze for variances.

Staying In Control

Closely tied to the budgeting process is expense procedures. You should define:

  1. The procurement process including proper authorization, guidelines for expediting items, tracking receipts, ….
  2. Adequate measures for cash control including policies for spending, standard expense forms, ….
  3. Withdrawal policies (e.g. who, how much, what conditions, …) to reduce risk of embezzlement.

I realize that, in small companies, it is easy to say that we trust our employees, but it is still prudent to have reasonable measures to budget for and control expenses.


Basic Accounting

April 6, 2010

Regardless of whether you have a full-time controller or a bookkeeper that works with an external CPA, you need someone to ensure that you follow good accounting procedures.

General Accepted Accounting Procedures

GAAP is the term used to refer to the standard framework of guidelines for financial accounting used in any given jurisdiction. GAAP includes the standards, conventions, and rules accountants follow in recording and summarizing transactions, and in the preparation of financial statements.

Good accounting packages for the system integration business are hard to find (or expensive). Some that are specifically designed for service-oriented businesses are:

Cash vs. Accural

There are two common accounting methods:

  1. Cash method – You record a financial transaction only when you receive or make a payment. This method is common for personal finances because it is less time-consuming, but it is limited. And, you can distort your income if you use credit or have inventory.
  2. Accrual method – You record when you sell or receive a part or service, not just when the payment is made. The method is more common in businesses because it provides a more accurate financial picture – by reflecting when value is created/transferred. Then, you can match income earned with expenses during a specific period.

While a lone consultant may find the cash method sufficient to run his business, most Alliance Partners quickly move to the accrual method as they begin to growth their business to handle the complexity of multiple projects by a staff of developers.

 


Financial Management

March 30, 2010

Technical success as an Alliance Partner is great, but ultimately you need to be financially successful to run and grow a business. In the end, financial management is just as important as good project management. And, failure to do so is often the primary reason for the demise of a small services business.

Show Me the Money - Tom Cruise

So, you need to implement adequate processes to manage, control, report, and plan your finances. They may not need to all be automated, but there at least needs to be defined business practices to ensure that they are handled consistently.

We’ve talked about a couple of the most important in the past:

  1. Project Cost Accounting – a vital step in an integrator’s ability to maximize the profitability. As your business grows, it becomes impossible to run the business from macro-level – simply tracking overall receivables and payables versus the total labor cost. You must be able to account for your finances on a project-by-project basis.
  2. Managing Cash Flow – perhaps, the most important financial practice. This is particularly true for smaller system integration companies that often operate business that are fairly low-margin and a large payroll. You can actually have a profitable business with significant revenue, still run out of the cash required to operate the business. And, that’s not to mention the cash needed to finance the growth of the business.

Over the next few weeks, we touch on other basic financial practices required to run a successful system integration business.


Managing Cash Flow

June 10, 2009

Effective project cost accounting ties directly into cash-flow management – perhaps, the most important financial practice. This is particularly true for smaller system integration companies that often operate business that are fairly low-margin and a large payroll. You can actually have a profitable business with significant revenue, still run out of the cash required to operate the business. And, that’s not to mention the cash needed to finance the growth of the business.

Managing cash-flow requires the proper mindset:

  1. Think of your business as a collection of projects, each with their own cash flow – rather than just a pool of developers that must stay busy and get paid by the end of the month. A more granular view will give you more visibility and more control over the cash flow required to operate the business.
  2. Also, have the discipline to manage cash, even when it is not a problem. Doing so, will not only give you the tools when cash is tight, but it might just improve your cash position (so that doesn’t happen).

Improving Cash-flow

Cash flowCritical to effective cash management is the ability to forecast cash-flow based on current and future requirements. Alliance Partners should have a 3 month forecast of pending payments versus expenditures. This forecast should be reviewed regularly – at least monthly, ideally weekly.

There are a number of ways to improve your cash flow.

  1. First and foremost, getting down payments to secure the materials (and labor) to commence a project. Agreeing to milestones for additional payments is also common practices. Your customer should not expect you to finance the project – unless they are willing to pay for the cost of that money.
  2. Moving your customers from 90 to 30 days can also improve your cash flow – by reducing the amount of time that you have to ‘float’ the project. If that’s not possible, you can at least establish the aforementioned billing/escalation process to ensure that they meet the agreed terms.
  3. Then, of course, you can also look at extending the terms with your vendors. Just not NI. 😉

Project Cost Accounting

June 8, 2009

Project tracking ultimately leads to individual project cost accounting. And, this is a vital step in an integrator’s ability to maximize the profitability. It becomes impossible to run the business from macro-level – simply tracking overall receivables and payables versus the total labor cost. You must be able to account for your finances on a project-by-project basis.

Quoted versus Budgeted

The first step in the process is to understand that there is a difference between the quote for a project versus the budget for a projects. The quoted price is simply what you were able to sell the project for; the budget is what you have allotted to actually get the project done. In some cases that may be the same. But, in others, you may expect to complete project for less than the quoted price. Or, you may even expect it to take more (and therefore less profit). But, don’t make a habit of it.

Getting the Complete Picture

Next, ensure that your project accounting system includes all labor, not just developer time. Be sure to accounts for management costs, project support, customer engagements, sub-contracting, …. To get a complete picture, your project cost accounting system should include hardware and equipment utilization. For instance, you may be able to save labor by using better tools.

Eventually, some integrators will go so far as to include sales, marketing, and other overhead to the projects. At first this may be a simple percentage calculation, but eventually you may find that it is worth noting which projects require more upfront marketing and sales costs.

Don’t forget about non-billable projects. These may include internal projects or lost opportunities. For some, these are just tracked as ‘negative’ projects which the other projects must counter-balance. But others figure out ways to ‘charge’ their projects for use of these non-billable activities.

Project reviews and audits

Once you have your project cost accounting system in place, it becomes easier to incorporate into your project reviews. You can look at total project cost and profitability rather than just labor costs and schedules. Issues can be raised and addressed as they occur rather than at the end.

In addition, you can perform financial audits of your projects. Take a look at the real costs and where you are actually making money. You may be able to improve your budgeting process, and even identify customers that you may want to ‘fire’.