identifying business risk aaron robertson

Audit | Tax | Advisory | Financial Advice

IDENTIFYING YOUR BUSINESS RISKS

Aaron Robertson

Audit | Tax | Advisory | Financial Advice 2

Identifying your Business Risks

IT

HR

OH&S

Asset Protection

Bank

FamilySuccessionATO

Marketin

g Lifestyle

Creditors

Finances

Contamination

Environment

Closures

BenchmarksLogistics

Business Value

GlobalLegal

Estate Planning

DISASTER MITIGATION

AccidentsBusiness Sale


Way too many hats…

OH& S Human ResourcesIT FamilySuccession Business ValueLogistics GrowthSales Asset ProtectionMarketing LegalFinance CustomersSeasons BankingNature CreditorsDebtors ClosuresKey motivational speakerNeeds a break…!!


…and still need to drive the business forward


Identifying your Business Risks

Narrow it down for today:

• Financial Risk

• Identifying and reducing risk in your business


Financial Risk

This can be identified – it’s in the numbers

Needs to be based on information that is timely and accurate or its value will be:OldOf little valueMisleading

and often – too late


Financial Risk

What should be measured?

Key business ratios:• Profitability• Solvency/Liquidity• Efficiency• Performance• Gearing

(Measure what the bank measures)


Financial Risk

Profitability

Revenue Trends – aim for growth??!!

Return on Sales (%) – net profit earned per $ of sales revenue (ie. how many sales $’s stick!!)

Gross Profit to Sales (%) - important to look at the trend as it will give an indication of where you margins are heading (prices as compared to your main variable costs) A decline can indicate pricing competition, rising direct costs, inefficiency (waste)

Return on Assets (%) – ultimate measure of profitability as it shows the profit yield per $ of asset used in the business

Risk Highlighted: Performance of the business relative to its sales and value of its assets/equity used or invested.


Profitability – Return on Sales


Profitability – Gross Profit to Sales


Profitability – Return on Assets


Financial RiskSolvency/LiquidityCurrent Ratio – the extent of funds that are available from Current Assets to cover Current Liabilities. The higher the ratio the better. Ratio of 2:1 is desirable. (Shellfish industry can be high due to weighting and value of stock)

Quick Ratio – reflects the amount of liquid assets available to cover current liabilities. Aim for 1:1

More aggressive than the above calculation (ie. excludes stock).

Current Liabilities to Net Assets (%) – identifies the amount due to creditors in the short term (1 year) as a %age of the owners equity. Reflects funds creditors have a risk relative to the owners investment. A %age > 80% would be of concern.

Total Liabilities to Net Assets (%) – the higher this %age the less protection for creditors. Identifies the relative size of the long term debt which may burden a business with interest.

Fixed Assets to Net Assets (%) – level of Fixed Assets relative to the owners equity. Being too high (> 75%) indicates a business may be vulnerable to ‘environmental’ changes as a high proportion of funds are tied up in long term assets (not easily convertible to cash).

Risk Highlighted: Ability to meet debts in the short term


Current Ratio


Quick Ratio


Financial RiskEfficiency – Working CapitalCollection Period (days) – days taken to collect cash from your Accounts Receivable. Should align with your collection terms!

Accounts Payable Days – days taken to pay creditors. Should align with general payment terms.

Inventory Days – days working capital is tied up as inventory. Will be a large number of days in the shellfish industry.

Sales to Stock Ratio – shows how fast inventory is being turned into sales. A higher ratio is better as suggests a quick turnover and conversion to cash. Shellfish industry will generally have a low ratio!

Can indicate being understocked.

Assets to Sales Ratio (%)– Shows how productive your assets are in terms of generating sales. If high can suggest that not aggressive enough in use of its assets, however if low could be putting too much pressure on its assets (exposes risk if any assets fail at a critical time).

Creditors to Sales (%) – shows how the business is paying its creditors. A lower ratio is a healthy situation and a high (or increasing ratio) indicates creditors are being used to excessively finance the business.

Risk Highlighted: Ability to manage short term assets (working capital) which directly effect cashflow.


Collection Days


Accounts Payable Days


Inventory Days


Financial RiskPerformance Efficiency

Return on Assets – net profit yield generated from the assets.

Return on Equity – the ultimate measure of how well a business is performing from an owners perspective. One of the main drivers of business value.

Return on Capital – Gives a better indication of a businesses performance because it is not effected by the debt/equity capital structure (ie. its the return before any recognition of interest or debt structure).

Risk Highlighted: highlights effectiveness of overall business management (as reflects management of the income and expenses (to get profit), the efficiency of asset use and the use of debt).


Return on Assets


Return on Equity


Return on Capital


Financial Risk

GearingInterest Coverage – number of times interest payments are covered by net profit (before tax and interest). Shows the ability to meet interest bills and service debt. (Aim for 1.5x or better)

Debt to Equity - the extent to which a business finances its operations. The riskier the business the less that is lent.

Sales to Debt – bank indications are that preference is for debt not to exceed 2 – 3 times turnover.

Debt to Total Assets (%) – familiar ratio. Depending on industry, range would be 40% to 60% debt funding. The risker the industry the lower this ratio.

(Note: Bank will involve personal assets in this calculation)

Shellfish industry – will come down to cashflow and the ability to service debt… (making your sales $ stick!!)

Risk Highlighted: key bank indicators. Highlights level of debt and the ability to pay.


Interest Coverage


Debt to Equity


What's wrong with this detail??

It’s historical – We are looking backwards

A guide to the future only

Not at Market Value

If it’s all you have a present…

…still a good starting point


Financial Risk cont

Planning/Budgeting/ForecastingFrom any position the only way to identify risk going forward is to plan:

• Use historical as a guide and a comparison• Use key drivers to model your situation – estimated seasonality, timings, stock

coming on, prices etc• Use variables that you know exist at present – interest rates, softened demand

etc

• 3 way budgets – banks are beginning to require…• P&L; Cashflow and Balance Sheet


Financial Risk cont

Planning/Budgeting/Forecasting

• It is a tool to reduce risk – less surprises• Shows financiers good fiscal practise especially when

• Comparing and explaining actual to budget• Reforecasting• Look beyond one year• Action plan for any gaps (in cashflow)

• Budgets should be ‘rolling’ plans – always looking 12 months out (or more)• If not, as a financial year ticks by, your budget shortens to a point where it is only a 1 month

budget.

• The above is the ideal – however keep it as simple or as complicated as you like – Just have that ‘plan’!


Planning/Budgeting/Forecasting…don’t stop there


Sounds hard to get all this information? Spreadsheets, double handling of information – here’s a glimpse of the future…

Cloud Accounting Package

Diagnostics & Reporting Tools

Add ons (sales/inventory)

Budget System

3 Ways

Data Entry

Risk reduction: ‘live’ accurate information at your fingertips


Business Risk

Basics in place:

• Best practice• Systems & Procedures• Adequate Insurance(s) – business/key person/family• Right business structure (will change and grow with the business)• Limit family directors• Limit personal guarantees

• Know your bank account…

Family

Family Trust

Company 1

Company 2

SMSF

Property Trust


Business Risk cont

The ‘business plan’ will cover key elements of risk• A liquid / live document that is reviewed and updated by the management team

(at least annually)• Considers all aspects of the business – marketing/sales/OH&S/HR• SWOT analysis• Risk analysis• Includes the budget (as above)

Involve the key team members.Allocate tasks and keep everyone timely and accountable.Attend to in prioritised and achievable sizes.Benefit > Cost


Business Risk cont

Have your business ‘ready to sell’…even if your not going to

Why?• Usually when you sell it needs to be in the best possible shape

• Sharpens the books• Do ‘Due Diligence’ on your own business:

• Use checklists across various aspects of the business• Looks vigourously at the important areas – people, systems, OH&S, profitability

• Build an action plan around this (similar to the business plan above)


Business Risk contHire in specialist help

• Set the scope, get them in, keep accountable, action results, get them out…• Fresh independent view

Use your team involved• Hold a wealth of knowledge• Internal eyes and ears

Have a business manager• Gets issues and admin off the owners desk to look the big picture• Accountable around the business plan

Benchmark business to industry• Industry margins• Cost of production• Industry returns

Get away from the business – Stand back and view• Can’t see the wood for the trees…


Business Risk

IN SUMMARY

• Review current position• Plan and Identify …plan budget due diligence• Prioritise, and action• Get help

Now, not later….could be too late?!

Audit | Tax | Advisory | Financial Advice

Three things serial Client Choice Award winners do extraordinarily well…

1. Everyone in the firm knows that customers/clients come first

2. Regard people as being as important as their clients

3. Consistency. Consistency. Consistency.

© 2014 Beaton Capital 37


While all reasonable care is taken in the preparation of this presentation, to the extent allowed by legislation Crowe Horwath (Aust) Pty Ltd accept no liability whatsoever for reliance on it.

All opinions, conclusions, forecasts or recommendations are reasonably held at the time of compilation but are subject to change without notice by Crowe Horwath (Aust) Pty Ltd. Crowe Horwath (Aust) Pty Ltd assumes no obligation to update this presentation after it has been issued.

You should seek professional advice before acting on any material.

Liability limited by a scheme approved under Professional Standards Legislation (other than for the acts or omissions of financial services licensees) in each State or Territory other than Tasmania.

The title 'partner' within Crowe Horwath conveys that the person is a senior member within their respective division, and is among the group of persons who have the day-to-day and strategic responsibility for the services it provides to clients and client relationships. However, the only part of the Crowe Horwath organisation which is conducted by a partnership is the auditing business. The other professional services offered by Crowe Horwath business are conducted by a publicly-listed organisation and/or its subsidiaries. If a person has the title of 'partner' in any of those other professional services of the business, he or she is not in fact an owner or part owner of the Crowe Horwath business via a partnership structure (but may be a shareholder in the publicly-listed organisation), and is not personally liable for the provision of services.

Crowe Horwath (Aust) Pty Ltd ABN 84 006 466 351.

Disclaimer

39Audit | Tax | Advisory | Financial Advice

Our service offering

Audit

Audit and Assurance

Corporate Governance

Internal Audit and Risk Consulting

The relationship you can count on

Tax

Specialist Tax Advice

Business Structuring

GST, State and Indirect Taxation

International Tax and Expats

Research & Development

Customs and Excise

Advisory

Accounting

Business Advisory

Corporate Finance

Forensic Accounting

Business Recovery

Performance Consulting

Mergers and Acquisitions

Financial Advice

Estate and Succession Planning

Financial Advisory and Wealth Management

Lending and Finance

Risk and General Insurance

Superannuation and SMSF

identifying business risk aaron robertson

Documents