Day: April 24, 2012

Developing Leaders Must Include Business Acumen
A friend of mine described his firm’s leadership development process.  They defined what their leaders needed to know at every level of their organization.  This publicly traded company maintains consistently high profits and draws top talent.  Their talent assessments and succession planning was impressive.  They created development plans for every leader.  In contrast I know another manufacturing firm that dreams of being successful.  Their idea of leadership development is showing a video recording on the 21 unsupported anecdotes of motivational gibberish.

I interviewed both teams.  One significant difference emerged like a slap in the face.  The leaders of the publicly traded firm were clear about their purpose. They were clear about their metrics and driven to achieve results. They exercised business in daily decision-making.

The leaders of the privately held firm were ambitious but could not define business acumen.  As I interviewed more of the management I found that managers had no P&L responsibility.  They were unable to offer concrete descriptions of their market and what their customers wanted.  They had a ball-park mentality best described as “if we build it they will buy it.”  The difference between the two teams was stunning.

Business acumen integrates financial literacy (the ability to interpret numbers on financial statements) with business literacy (recognizing how daily decisions and strategies affect the financial numbers).

Great organizations require that every leader have and refine business acumen.  The bottom line is that when managers, sales professionals and employees increase their business acumen they are capable of thinking and acting with the bigger picture of organizational success in mind.

Business Acumen Defined

Business acumen is a perspective of the total business and a resultant ability to make decisions that enhance its overall performance.  It is a characteristic that enhances personal capacity and increases effectiveness in personal decision-making. The basics of business included in business acumen include: sales forecasting, inventory, merchandising, advertising, (increase the value to the customer through lower prices or other value proposition) product mix, cash, profit margin, return on assets, consumer focus, best practices, and shareholders.[1]

Explanation the Basics

Charan contends that every business is the same inside. The challenge is cutting through to cash, margin, velocity (movement of inventory), growth and customers.  The goal of any business is to turn their product into cash to continue operations.[2]  To carry out this they work with pricing, advertising and product mix to design the greatest yield.  Problems occur when companies sink cash into inventories or debt and therefore cannot generate enough cash to stay in business.  As a child Charan learned best practices (what the competition was doing well) by listening to his father and uncle debrief their days.

Business acumen requires that one learn the building blocks of money i.e., cutting through to cash, margin, velocity (the speed at which inventory is turned over to generate cash), growth and customers.  Note that return = margin x velocity (R= M x V).

The rule is that the cost of capital has to be less than the return on assets or the business is loosing money. Everything in a business emanates from this focus.  Besides understanding what products generate cash every firm needs to have cash management (including AR and Debt collection) practices that enhance their cash flow.  If cash is not being generated a company must look at why.  In a small business this may mean seeing the need to generate cash for the business as well as personal living needs – to set the sights higher.  Everyone impacts cash generation.  Everyone impacts how cash is used.

Margin is the net profit after taxes or the money the company earns after paying all its expenses.  The gross margin is the total sales of a product line less its cost.  Gross profit is also critical to business management because it provides clues about changes affecting the nature of the business – if the gross margin falls then ask why.

Growth is sustainable profit. Sustainable profit energizes a company and draws top talent to it.  It is important to note that size is not the ultimate measure of growth – profitability and return are the benchmarks. “If the money-making is improving and the cash is growing too, you have some interesting choices.  You can use the funds to develop a new product, buy another company, or expand into a new country.”[3]

Regardless of how a company measures the responses of customers to their products the importance of being close to the customer is essential for survival.  When thinking about customers, keep it simple – what are they buying or not buying and why?  Stay close to customers and talk with them about what they are looking for.  Observe them directly – not through middle men.  Put the entire set of concepts to work by using the return formula to test company performance one period to the next and to ask why this may be the case.  This is how all the pieces come together.

Business Acumen in the Real World.  Exercising business acumen is a leader’s responsibility, “The world has complexity, leaders provide clarity.”[4] Using business acumen the leader has to gauge the environment and make decisions on prices, margins and purchases.  Leaders with business acumen scan the environment and look for trends that offer opportunities.  Business acumen helps the leader find the three or four business priorities that will leverage the business toward growth by retaining customers and achieve all the important money-making goals at the same time.  Setting the right priorities and communicating them consistently is essential to success of the business.

Doing the right things day in and day out builds value.  In publicly traded companies this is measured in their P/E ratio i.e., price of the stock as compared to the earnings per share. The higher the better such as if the P/E is 7 then for every dollar of earnings per share the stock is worth seven times that much thus creating wealth.  The significance of this ratio is especially clear if a company misses its forecasted earnings – investors begin to question whether the company has the discipline to meet its future obligations.  How can mid-level managers affect P/E?  How about overcoming the “not designed here” syndrome and modifying an important part from an existing supplier thus increasing their volume and lowering your cost.

Getting Things Done.  “Leaders have to deliver results day in, day out, relentlessly over a long period.  Delivering results is what gives an organization energy, builds confidence, and generates the resources to go forward.”[5] The drive to achieve results is characteristic of every effective leader.  Without a results orientation an organization suffers from a lack of clarity that makes it little more than a mechanism for evasion of responsibility and leadership.[6]

Conclusion

I would work for the publicly traded company.  People there want to achieve results together.  They possessed a sense of purpose and mission.  In the private firm on the other hand one manager described the environment as a “need to know” Theory X monarchy – this is not exactly the recruiting slogan one wants to promote. So what does business acumen look like at your company?  Use the prompts below to define what your leadership/management team members need to know.  When you complete your definitions train your team and hold them accountable for their results.

Cash

Margin

Velocity

Growth

Customers