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      Financial health of a company – the check up for future business viability

      28. October 2020
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      Financial Health Check


      If you google the term “Financial Health“ or “Financial Health Check“, you will find very good sources for interpreting important KPIs on profitability, liquidity, cash flow, operating costs and company leverage.


      When we deal with new customer prospects for the first time, our initial approach is quite similar to the traditional interpretation of financial KPIs and this is exactly where problems begin: this approach is intended for companies that have emerged from the Industrial Age and thus, does not reflect the value drivers of the Information Age i.e. data become an asset that actually has no maturity and, unlike machines, their intrinsic value can even increase over time if created through network effects.
      In addition to the classical KPIs, we also record the future viability and economic sustainability of the business model of the prospect in order to identify starting points for improvements - as transformation remains our business purpose.
      We want to capture the company as well as possible in advance of any interaction. The reason: from the first encounter onwards, the decision-makers in this company should get the feeling that they have known us for a long time and thus be prepared to receive exactly the needed nudge for their transformation journey. In this blog post, we will explain why this is so important in transformations and arouse your interest in asking about our experience and expertise in similar situations.
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      At the end of the blog post you have the option to leave us a comment or to contact us directly

      Financial Health needs to Cater for Resilience and Future Viability


      From our point of view, companies today are successful and therefore “financially healthy“ if they have actively started their transformation from the industrial to the information or digital age or, even better, have already completed it i.e. they understand network effects in the platform business and build their business intelligence based on fundamental data analysis of the usage and user data related to their services.
      This requires a revised way of thinking with regard to the organizational culture and the operating model, which only a few decision-makers are really prepared for.
      The willingness of people in organizations to change is often limited - incidentally, this is independent of size. An important aspect here is how change is instigated top-down - motivating us to decipher the personal agenda of c-suite members.
      In the end, it is about answering the question: can the company exploit their full potential in terms of market relevance and innovation strength? For incumbents, this has created a challenge, because on the one hand innovation cycles are considerably compressing and on the other hand, new market entrants can often quickly secure market share – made possible through a careful choice of technology and its smart commercialization.
      In addition, the ability to react and adapt quickly is becoming increasingly important in a world of unpredictable - sometimes even rare - events. We call them "compelling events", sharing a commonality: technologies with no or very limited market demand before such an event suddenly gain in rapidly growing relevance.
      In our multi-disciplinary research practice, we continuously identify "compelling events" and analyze their effects on industries as well as on the "financial health" of certain companies. These are the first starting points to motivate transformations.
      In summary: for us, "financial health" goes beyond the traditional KPIs of financial analysis. We evaluate the future viability and robustness of the company - future viability in the sense of how the company drives choices in their technology stack for their future business models and robustness in terms of how (quickly) the company can adapt to new market conditions in the case of unprecedented events.

      Financial Health Check in the Digital Age Evaluates Silent and Lean Assets


      "Financial health" does have an analogy in physical exercise: we often see companies wanting to run a marathon although they have never run more than 5 km before or still have some belly fat! In real life everyone knows this cannot work and yet it is often tried in business. Expecting a different result from the same approach was defined by Einstein as a suitable definition of madness.
      The same applies to the many "fit for purpose" programs of some companies (all of which have inspiring project names like "'Company Name' 2.0", "Vision 2025", "Next Gen Business") that stress the organization in a way that causes its immune system (which comes into play below the surface in the famous iceberg picture) to repel the associated measures after a certain time.
      So, if we want to determine how financially healthy a company actually is, we use a multi-disciplinary approach. An important aspect is the cost of the technology used in both the operational platform and the IT platform. We often find companies that draw up budgets for their IT systems and treat the respective units as cost centers. Inadequate incentive systems and a lack of governance increases the problem of an accumulated high cost base over a period of years.
      The result is that both platforms have just arrived in the 2000’s technologically with increasing cost pressures due to outdated systems. Sometimes we even see a 19xx before the year of release date.
      This is not only demonstrated by the excessive cost budgets resulting from the operation of such an IT landscape, but also by the low investment activity in software and data-driven business models (such as SaaS). This is quite remarkable when looking at how non-financial KPIs account for fluctuations in the company valuation, which is quite well explained The End of Accounting by Baruch Lev and Feng GU.


      Generated data from usage of a machine or software doesn't exist as an accounting post - the same applies to the related sales and profits. The use of IT technology in a company as a cost center is no longer appropriate in a digital age.


      The main reason for this is intangible assets, in other words, anything that doesn't make a noise when it’s dropped. In the example of data, its accounting treatment compared to purchasing a production machine is quite problematic. A machine is purchased and written off over the estimated period of use, while data are also purchased and booked as an expense fully accounted in the first year. However, data generated from machine usage or software doesn't exist as an accounting post - the same applies to the related sales and profits.
      From our point of view, the use of IT technology in a company as a cost center is no longer appropriate in the digital age. In addition to traditional financial analysis, we also evaluate the organization regarding its maturity level in terms of the design and execution of digital business models. Outside-in workshops with strong top management buy-in help us to gain invaluable insights into previous roadblocks to digital transformation. After 2-3 workshops, we are usually capable of formulating an approach, where we take on a leadership role and therefore we can be held accountable based on our promised performance.
      The value proposition of our approach is measurable evidence regarding the economic benefit for the company, which in turn provides the basis for the value-based pricing of our contribution.
      While we are independently-minded, we examine the existing corporate culture to identify starting points for influencing and making the company financially healthier. This is also important for us, since we aim to evaluate our own investment as an entrepreneur related to the contribution we perform for the company. This joint approach enables us to be credible enough to optimally support companies in their transformation.

      So what? And now?


      In our "always-on" real-time world we are increasingly surrounded by information-based digital services, which we sometimes don't even notice. Our strong belief is that the use of digital technologies can form sustainable business for a broad livelihood. But this requires revised thinking and different approaches.
      It's not expected that current accounting rules and the associated incentive systems for board members and top managers will change in the medium term. In our projects, we therefore address the aforementioned aspects in the context of sustainable business models, whose growth is also generated by information and data intelligence. Pure financial key figures are just the beginning - the choice of technology and, above all, its appraisal at company board level are equally decisive in forming statements about future viability. We are convinced that, using our approach, to check the financial health of a company, does uncover the economic viability of a company’s business model. Cost reduction programs, which then additionally reduce the budget assigned to IT technology and their hosting departments treated as a cost center, expedite this race to the bottom.
      If we have sparked your interest in learning more about our projects and approaches, we look forward to your comment on this blog post. You can also contact us directly to make a specific request.

      Interested in more?

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      Change in Organizations is a profound topic, that we'll dedicate a blog post to share our experiences and conclusions. The same will happen to challenges that arise when companies still operate their technical platforms themselves. If you want us to treat other specific topics, feel free to leave us a note in the comments.

      Overview

      Tags

      • Accounting
      • business model
      • Digitalization
      • Entrepreneur
      • Financial analysis
      • Financial statement
      • future viability
      • interpretation of financial statements
      • Technology
      • Think-tank

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