Why Understanding Financials Can Save Your Life

This is an excerpt from my eBook, “Confessions of an Accountant”. I wouldn’t normally do this, but the reason I am starting my newsletter and online content with an anecdote from my book is not because I love this story but because of the power of this story and lessons it teaches. I know some of you would have already read this, but many may not have. I hope this story is as powerful for you as it still is for me almost 10 years later…

* As always, names have been changed to protect the innocent.

I am going to share the story of the iceberg that will sink your business if you are not diligent and don’t pay attention to specific areas of your business. This is a true story about Gerry*.

Gerry is a go-getter; he started a construction business early in his 20’s and was doing well. When he started his business, he employed a lady named Wendy to do his bookkeeping, banking, and accounts work. A strong relationship was built between the two. Gerry was young and had little business experience. He didn’t worry about Wendy’s work and understanding financials; he was only interested in winning bigger projects and watching his business projects.

businessman working on understanding financials

Gerry worked hard and built a successful business and enjoyed the fruits of his labour including a nice car and a nice house in a nice area. He would later meet his nice wife and have a nice daughter. However, he never paid attention to understanding financials and the performance of his business, as this was Wendy’s responsibility. Gerry thought he knew how the business was progressing by the number and size of projects being completed. All Gerry worried about from a financial perspective was getting his pay each month, which Wendy diligently transferred to his personal bank account. The only effort he made was signing his tax returns at the end of the financial year.

This was Gerry’s pattern for business and life until he reached his mid 30’s when something happened that changed his life forever. It turned out Wendy was a little bit out of her depth. This would be a good thing to discover about someone for whom you had built a very high level of trust in and a very close working relationship with over a 15-year period. Only out of loyalty did Gerry keep her as an employee.

This is what happened. The business had been running a bank overdraft for a long period of time – not just “a little” overdraft, but one totaling $500,000! Not pocket change in anyone’s language, especially a business the size of Gerry’s. No business owner wants to be in this position; so what do you do when your business is in the hole $500,000? You try to trade your way out of it!  After all, the business still had profitable contracts; it just had a large overdraft that needed to be cleared.

At this point, the bank wasn’t willing to extend the overdraft beyond $500,000 but they were willing to use the equity in Gerry’s nice house as security for the money owed to the bank. Gerry did not want to sell his business or home. The business continued to trade but Gerry slipped back into old habits of not paying attention to the business’s financial well-being. He was too busy signing up new contracts to worry about that sort of stuff.

Quick question for you. Do you remember what happened in 2008? There was a small event called the “Global Financial Crisis” or GFC as the cool kids call it. Our friend Gerry’s business was infected by the GFC virus and it put his business into crisis and in need of life support. Even worse was the fact that the bank was the ‘doctor’ assigned to the ‘patient’ and the bank officials wanted to switch off the life support. This would force Gerry to sell his business and house to repay the debts of the business. It was doubtful the equity in the house and the value of the business combined would have left Gerry and his family with much after the debt was repaid. Remember, the sale price for everything dropped dramatically during the GFC and this only made things worse for people trying to sell assets.

understanding financials helps you avoid debt

It was at this point that I met Gerry; and better late than never. The obvious question was, “how did this happen?” Aside from what we have already mentioned, he trusted Wendy with everything financial and to use his words, “as long as I could take my drawings (his pay) each month everything was fine”.

Wendy was at this meeting and she was very defensive. Gerry realised two things during the discussion. Firstly, Wendy should have made him aware of what was occurring regarding the financials because it was her responsibility to tell him. This made him angry; his trust had been betrayed, or perhaps worse, she didn’t care. However, it could also be argued that this is Gerry’s fault as well…more on that in a moment.

The second thing Gerry realised was that no matter who he trusted in the role of completing the accounts and bookkeeping, it is his responsibility to work on understanding financials and his business performance. He should have known what was going on and should have taken steps to prevent maxing out the overdraft, or at the very least, taken proactive action at the first sign of trouble. Most importantly, he should have taken an interest to understand what was going on with the financial health of the business, and if he didn’t understand what was going on, get help from someone who did.

The Action Plan:

At the end of the meeting, we developed an action plan. Action item one was to fire Wendy and replace her with someone who was competent in the role. Action item two was to develop and implement a strategy to survive; we just wanted to keep the doors open each morning for the short term. I’ll never forget Gerry during the meeting, his body language, the tone of his voice, and the expression on his face.

Fast forward 12 months and numerous meetings, Gerry’s business, and most importantly his life, was back on track. The $500,000 overdraft had just been reduced to nil and I had never seen someone so happy to have nothing in their bank account! We were well on the way to eliminating the debt that had built up on Gerry’s house and he was still taking his drawings out of the business each month to fund his personal expenses. I’ll never forget his demeanour in the meeting 12 months before, and I won’t forget the contrast in this meeting. The smile on his face, the comfort he had in the chair, and the way he swaggered out the door.

This had a happy ending, but there is one part of this story that hit home. It is the significance of the situation to me. Gerry confided this part of the story at our meeting 12 months after he was on the brink of ruin. Straight after our first meeting and he realized the potential disaster facing him, he went home and took a swim alone in his pool. He was floating on his back and, as he exhaled deeply, he sunk to the bottom of the pool, remained there and waited for nature to take its course. His rationale was that if he dies, his wife would receive his life insurance payout which was enough to pay off his debts and pay what owed on his house, and his wife could move on with her life.

The only thing that stopped him was that he couldn’t bear the thought of either his wife or daughter finding him dead in the pool. This only left only one option: get through it and he did.

There are three key lessons we can learn about understanding financials from Gerry’s story:

  1. Take control of understanding financials and the performance of your business. You shouldn’t be the person entering the data into your accounting system, but you should look at it every month at least to see how the business has performed historically and, with that information, plan the future direction of the business.
  2. Understanding financial information is learnable so long as you have to have a desire to learn. Accounting experience is not required.
  3. Financial information is the most powerful yet underutilised business tool you have at your disposal.

These three areas are what you will get out of this book: take control of the financial management and performance of your business, learn the process of understanding financials, and utilise the power of financial information.