up. The guyâ€™s suppliers had cut off his credit the day they saw his
latest balance sheet. He had no idea why.
The student looked at the balance sheet (something youâ€™ll
learn about in chapter three) and discovered a terrible mistake.
The CPA who prepared the statement for the naive owner had
mistakenly classified the companyâ€™s $200,000 mortgage balanceâ€”
which had twenty years to runâ€”as a current liability. That meant
it had to be paid within a year. When the suppliers saw this
enormous debt supposedly due within the next twelve months,
they cut off the companyâ€™s credit in a New York minute.
When the student confronted the errant CPA with his mis-
take, he harrumphed, muttered, and briskly ushered the lad out
of the office.
The problem was eventually straightened out, and the badly
shaken entrepreneur learned a valuable lesson: Owners need to
know enough about their companiesâ€™ statements to read them
critically and understand what theyâ€™re reading, because creditors
4. Unions. Before contract negotiations come around, unions
Financial Statements: Who Needs Them
analyze a companyâ€™s financial statements to find evidence of poor
management, mismanagement, good management, and anything
else that might be used as levers in the bargaining process. (Top
executivesâ€™ salaries inevitably take a hit, but the size of their
bank accounts cushions the blow.)
tion sometimes shows union rep-
resentatives where management Owners: Donâ€™t rely solely on
might find money to pay higher your accountant to paint a
wages and/or better benefits, so picture of your companyâ€™s
you can bet your bottom line that financial condition.
a unionâ€™s financial wizards really
take the statements apart. And
those guys donâ€™t wear hard hats, carry lunch pails, and play touch
football. They wear suits, carry laptop computers, and play hard-
ball (around the bargaining table).
5. Government. Laws and regulations require companies to
report various financial information to several levels of govern-
ment and associated agencies and bureaus. Itâ€™s a necessary evil if
you want to stay in business. Certain taxes are based on the
value of what a company owns, too. And then thereâ€™s our friend
the Internal Revenue Service. Enough said?
Whatâ€™s in It for You
Why should you care about financial statements? Because you
probably enjoy eating and living indoors. But more specifically:
s You can relieve your anxiety about your company going
bankrupt (or bail out early) by reading its statements. You can
also track its financial performance, which has a major impact
on the value of your stock options, 401(k) plans, profit-sharing
programs, and how much expensive art work top management
can buy to decorate the executive suite.
Statements also confirm whether all that downsizing really
made as much difference in the companyâ€™s performance as the
boss promised it would.
14 THE AGILE MANAGERâ€™S GUIDE TO UNDERSTANDING FINANCIAL STATEMENTS
Youâ€™ll learn to make and defend your proposals in dollars
and cents. Ditto requests for more and better equipment to run
your department, division, or team. And those proposals, no matter
what management level youâ€™re on, will all have some bearing on
your companyâ€™s financial health.
s Youâ€™ll learn to speak a new language. Higher managementâ€™s
goals are usually expressed in dollars, and theyâ€™re relayed down
the ladder to the rank and file. Thatâ€™s why accounting has been
called â€śthe language of business.â€ť Agile managers must be rea-
sonably fluent in it.
BT est s Youâ€™ll understand financial
ip statements and their own pecu-
liar (but not awfully difficult) jar-
When you learn to speak in
gon. That helps you communi-
the language of numbers,
cate at a higher, more professional
youâ€™ll be speaking the lan-
guage senior managers know
This ability tends to level the
and like best.
playing field when you have to
communicate with full-time
number-crunchers and bean counters who may otherwise try
to dazzle you with footwork. A working knowledge of their
vocabulary insulates you from being snowed by it and may even
help you start a blizzard or two of your own.
s Youâ€™ll improve your reputation. Speaking in financial terms
when the occasion calls for it gives you a reputation as a â€śbot-
tom lineâ€ť manager, which higher managers will warm to like a
cold dog to a hot stove.
s Youâ€™ll be prepared to analyze, interpret, and challenge some
of the numbers that peers and superiors toss around (especially
when they think they can monopolize the meeting).
s You can compare past, present, and projected financial state-
ments from internal profit centers, track important changes from
one financial period to the next, and be ready to supply reasons
for those changes before someone tries to skewer you across a
Financial Statements: Who Needs Them
You can contrast your companyâ€™s operations with outside
â€śbenchmarkâ€ť organizations. That can clarify your relative per-
formance and the reasons behind it. You can also compare your
own area (department, division, or whatever) with other inter-
nal areas, assuming youâ€™re all set up as profit centers that make
and sell some product or service.
s Youâ€™ll be able to evaluate the financial fitness of another
company that makes you an attractive job offerâ€”an offer that
may not look so great once youâ€™ve scrutinized the businessâ€™s
finances. Who wants to sign on to rearrange deck chairs on the
s Finally, if you understand what financial statements tell you,
you can rule out one more thing that your esteemed colleagues
might blindside you with when youâ€™re jousting for promotions
and raises. People donâ€™t mess with those who understand num-
bers. Agile managers uncomplicate their lives as much as pos-
sible because they learn as much as possible. And that helps them
scale that organization chart faster than a lizard up a palm tree.
The Agile Managerâ€™s Checklist
You need to understand financial statements to:
Analyze the ability of customers to pay you back;
Assess the ability of your organization to stay afloat;
Defend your proposals to higher management;
Gain a reputation as a â€śbottom lineâ€ť manager.
Use financial statements to compare your operations
with those of competitors or benchmark organizations.
Understand numbers. Youâ€™ll climb the ladder faster.
The Income Statement
â€śThere was an accountant named Wayne
Whose theories were somewhat insane
With sales in recession
He felt an obsession
To prove that a loss was a gain.â€ť
It was just before 9:00 A.M. As the Agile Manager waited for
Steve to show up, his mind wandered back to a college account-
ing class in which a graduate student did most of the teaching.
During a grueling question-and-answer session, the teacher had
said, â€śWhat are you, a bunch of morons? If you canâ€™t understand cost
of goods sold, I canâ€™t wait until you get to inventory valuation.â€ť
A friend of the Agile Managerâ€™s spoke up: â€śYou make it seem
like this stuff is logical. Itâ€™s not. When youâ€™re buying components
for a product youâ€™re making, why shouldnâ€™t you be able to deduct
the cost from your revenues right away instead of waiting until the
product gets sold?â€ť
18 THE AGILE MANAGERâ€™S GUIDE TO UNDERSTANDING FINANCIAL STATEMENTS
â€śBecause,â€ť sputtered the graduate assistant, â€śthatâ€™s the way it is.
You canâ€™t deduct it until itâ€™s sold.â€ť
â€śYeah,â€ť said another student looking at the questioner. â€śDidnâ€™t
you know that Moses came down off the mountain with the Gener-
ally Accepted Accounting Principles?â€ť
As the class exploded in laughter, the graduate student shook
his head and walked out.
It was then that the Agile Manager realized that financial state-
ments were made up of a lot more than numbers. They were also
made up of tradition, archaic policy, law, and idiosyncrasies. Know-
ing that somehow made understanding them easier.
Whatâ€™s an income statement? Glad you asked. Itâ€™s an account-
ing statement that summarizes a companyâ€™s sales, the cost of goods
sold, expenses, and profit or loss (plus a few other items thrown
in for good measure). Although itâ€™s often called a â€śconsolidated
earnings statement,â€ť plain folks usually call it an income statement.
What the Income Statement Covers
The income statement covers a particular period of time. A
company always publishes an annual income statement as part
of its yearly report to stockholders. That report also contains
two other statements, the balance sheet and statement of cash
flows. (Weâ€™ll get to those in chapters three and four.)
Companies also produce income statements for shorter peri-
ods, such as a month or a quarter. They send quarterly state-
ments to stockholders to update them about the companyâ€™s per-
formance between annual reports.
Quarterly statements are important because they permit man-
agement to stay on top of things. If a company produced an
income statement only once a year, it could get into a financial
jamâ€”and not know until it was too late.
What an Income Statement Shows
When you look at an income statement youâ€™ll see:
s Net sales
Understand the Income Statement
The cost of the goods that were sold. This information
shows up on income statements for manufacturing, whole-
saling, and retailing firms, because they buy stuff to resell at
a profit. A company that provides only services (consult-
ing, financial planning, or writing computer code, for ex-
ample) wouldnâ€™t have a cost of goods sold item on its in-
Gross profit (Net sales â€“ cost of goods sold = gross profit)
Operating expenses (what management spent to run the
company during the period that the income statement cov-
Earnings before income tax
Net income (if youâ€™re lucky or good, or both)
Earnings per share of common stock
The skeleton of an income statement, then, looks like this:
â€“ Cost of goods sold
â€“ Operating expenses
Earnings before income tax
â€“ Income tax
= Net income or (Net loss)
. . . and earnings per share of common stock.
Net income is the fabled â€śbottom lineâ€ť that you hear men-
tioned so often (as in, â€śWhatâ€™s the bottom line on your proposal
to replace all our employees with computers, Smedley?â€ť).