There is no such thing as an inherently "good" or "bad" number...

One of the biggest misconceptions that I run across when training nonfinancial managers on finance and accounting is the perception that there is such a thing as a “good” number or a “bad” number.  To really understand the financial statements of any business, and especially your own business, you really need to be able to understand the story that your numbers are telling you - because that’s all financial statements are.  A set of financial statements is like a good book, it’s the story of your business.

Depending on the knowledge, skills, abilities (and ethics) of your finance and accounting personnel as well as top management your financial statements should be a work of nonfiction, a story about how well your business has performed during the past year, month, or other relevant time period.

It is critically important for us to be able to read the numbers to know when what we’re looking at is a good result versus a bad result. It is what we base our corrective action on. It is not accurate to look at a set of financial statements reporting net income and say the company is doing well any more so than it is to look at a company with a net loss and say that that company is not doing well.   The real story our financials tell us is context dependent.

To illustrate the importance of context in interpreting numbers in financial statements, I frequently start any finance and accounting training with the following illustration.

“Imagine I’m standing on a scale. I look down and I see a number. Am I happy or unhappy?”

Probably the funniest answer I ever received was the following: “you’re a woman so probably not.” But then I start receiving the right answer which is “it depends.” The bigger question is what does it depend on?

First, what did the scale read last week? This reflects a look at my history or my trend. In business we use trend analysis all of the time - especially during budget season. Where were sales last year at this time? What has the trend been in sales? A trend analysis is one key context factor that helps us interpret, or tell the story, of the numbers represented on our financial statements.

Second, what was my goal? What was my goal weight? In business we represent, or quantify, our goals in our budget.   Again, comparing actual performance to my goal/budget allows me to interpret our actual performance in context.

From the standpoint of the number I see on the scale I might want to compare that number to members of my gender, I might want to get even more specific and narrow that down and look at the average weights of women who are also approximately my height, and age. After all, my neighbor’s three-year-old daughter is the same gender but I definitely should not be comparing my weight with hers. With this additional detail I reach a more rational conclusion as to whether that number should make me happy or unhappy. The question then becomes, in business what are those equivalents?

Third, industry. To interpret my company’s performance it makes sense to interpret my performance metrics in light of other businesses in the same industry.

Fourth, competitors. While it does provide relevant context to compare my performance metrics with others in the same industry, it is even more relevant to compare my performance metrics to those members of my industry that are my specific competition.

So in summary, remember there is no such thing as a “good” or “bad” number. The story of your business as told by financial statements, and internal financial reports needs to be told in context. A net loss in the current period of $100,000 might be actually be a beautiful number, one that our business should celebrate, if during the same period our competitors lost significantly more. 

As we tell the story of our business, and evaluate the performance of each of our employees, it is in our best interest to have the most accurate picture of our economic reality. For with this basis, we stand a much better chance of making good business decisions moving forward.

So if we ever meet, remember it is never good enough to tell me that “that” number is good or bad without telling me why. I will want to hear how you reached your conclusion and that should be based on an analysis of as many of the following factors as you are able to obtain information on:

(1) History/trend,

(2) Budget/goal,

(3) Industry, and

(4) Competitors.

Now get out there and paint the true picture of your business.