A Life In Numbers

If you have yet to attempt to complete an online Annual Return for Companies house then you may need to set aside a good chunk of time and have a few painkillers to hand.

If you have a business that is a simple private company with just a few shareholders and only one issue of shares all at the same price then you shouldn’t have too much trouble.  However, anything more than that and you could find yourself facing some serious frustration.

With good reason, Companies House is encouraging companies to submit their Annual Returns online and the cost for doing so is half that of a paper submission.  And, to their credit, some good changes have been made such as allowing more that 99 shareholders to be added (a limit not made explicit until you tried to manually enter the 100th and found you just couldn’t any further and then needed to repeat the process on paper) or the inability to handle low nominal values for shares (compounded by an inability to understand this was an issue) which has now been fixed.  However, I’m also hearing of instances where paper forms are being rejected because online ones have been started and this means the online version has to be useable and practical.

Where are the major issues now?

Firstly the requirement to update your directors details with the Country/State of Residence.  Not too complex in itself but it feels like repetitive information which is already included in the address.  When you select the country then you are prompted for a “date of change” which is not abundantly clear as most of your directors will not have had any change.  The answer here, according to Companies House, is to put the date of the Annual Return.  Also, although there seems to be an implication that you will also have to complete a 288c for this change, I’m assured that this is not necessary (as there’s been no change!)

The next challenge comes by way of the “Amount paid up on each share:” which has clear notes stating “The amount should include the share premium.”  Unfortunately, if you are a company, as many are, which has had more than one issue of the same class of share at different prices (multiple financing rounds either up or down) then the single box allowed for the submission of this data seems woefully inadequate.  Now, admittedly there is a later note which says “Multiple amount paid and unpaid details within the same class of share.  This form is not currently able to capture multiple paid or unpaid amounts for the same class of share. This information can currently only be provided using the Software Filing service or by submitting the paper version of the form.”  and they seem to be adding this sentiment liberally across the site, so it is obviously causing some consternation. 

The main issue here is that it smacks of a set up that has not been fully thought through.  Unfortunately, it seems it’s also not been communicated clearly to the help desks at Companies House.  I’ve had two separate calls today where I was told “just put the paid up share premium” and when I enquired how I should handle multiple values I was told “just put the current one”; then “put the total share premium”; then “just put in what’s needed to pay it off”; then “I’m not sure I understand this” then “sorry the technical department is busy” and finally “we can’t give you guidance on this and you’ll have to take your own legal advice”.  Our lawyers have confirmed this is a complex issue.

A little more digging has confirmed that the BIS (Business Ideas and Skills department) of BERR (which once upon a time was the DTI) have identified this as an issue.  This link BIS Paid Up Capital explains a little more and they are referring people to ICSA ICSA Guidance for more guidance.  The ICSA essentially say do what you can to provide information but if it’s too complex then ultimately just dividing the total share premium account by all shares should do the trick. 

I understand Company Lawyers are currently advising clients to go the paper submission route and submit all relevant details.  Ultimately it looks as if there is a realisation that this aspect of the Companies Act 2006 needs a little more work and there is talk of a change being made.  If you’re stuck with the online (which you will be if you’ve selected the “Proof” option then you’ll probably need to follow the ICSA guidance.

The next challenge to be faced is the Prescribed particulars (of rights attached to shares) which provides a relatively small box for a whole lot of potential information. 

Here the challenge may come for small companies, where they only have Articles of Association and no Shareholders Agreement and they will have to pick their way through understanding what’s relevant and ensure they don’t include information relating to Directors instead of shareholders.  For companies with more complex structures and detailed Shareholders Agreements as well as Articles, it’s unfortunately not possible to just write “as detailed in the Articles”.  You have to go to through and select all the relevant information and cut and paste it into the boxes in some coherent format. 

I’ve seen indications that there might be a limit on the amount of data that can be input but I haven’t found out whether that is actually the case.

There have been some interesting questions as to the objective of this particular request, as excerpts from Articles and Shareholders Agreement will never tell the whole story and for any potential or existing shareholders they would be better off getting hold of the complete documents.  So for small and medium private companies this does seem an extra burden that serves no real purpose.

 The details that have to be extracted for each class of shares are as follows :-

(a) particulars of any voting rights, including rights that arise only in certain circumstances;
(b) particulars of any rights, as respects dividends, to participate in a distribution;
(c) particulars of any rights, as respects capital, to participate in a distribution (including on winding up); and;
(d) whether the shares are to be redeemed or are liable to be redeemed at the option of the company or the shareholder and any terms or conditions relating to redemption of these shares.

There are a lot of beneficial changes coming out of the Companies Act 2006 but there is still a need to make sure companies can operate and continue without being overburdened by bureaucracy.  For many SMEs it feels like government departments assume you have as many administrative staff as they do.  There’s still a real need to reduce these burdens on hard pressed SMEs, even more so at a time of cost reduction when many are doing their best to get by and keep their staff employed. 

The new Companies Act is a decent step forward in many areas and it’s helping to simplify matters but at the same time its brought in some extra demands that do need more consideration as to how appropriate they are for certain types of companies, especially when it comes to SMEs.

It’s good to see that there’s some consolidation in the market for part-time FDs. The recent merger of FDUK and FD Centre shows that there is more interest than ever in the use of flexible finance resources by large and small companies.

As the credit crunch bites and companies come under more pressure to manage their cash, more and more CEOs and MDs are finding that they have more than enough to occupy their time without having to look after the company finances too. Operations that could be handled in a growth market now become much more challenging. And it doesn’t take much of a shift in the finances of a business to take it from healthy and prospering to wounded and struggling.

The continued growth of companies providing the services of a part time FD or CFO, shows how a good management team can make a great decision when they bring on an experienced finance professional. And there’s lots of choice, from the independent providers to the multiple franchise services. And between those two there are specialist organisations, like us, which bring a very focussed service to their clients.

A recent survey showed that the majority of Finance Directors in the top UK companies are now being paid over £1m a year. And most good FDs in both public and private companies are now commanding salaries of over £100,000 a year. And those are being paid because of the value that they can bring to the companies. Of course not every one brings an equivalent value, but if you have the right person in the role then the worth they can bring will be many times their salary in terms of value created and costs saved.

For an SME, £100k or £1m is most likely a step too far, unless they’re very cash rich or extremely well backed. This is why the flexible and part time FD is becoming more popular. When you consider that a full time FD on a salary of £120,000 is going to cost you at least another £90,000 in bonus, pension, employment costs, NI and recruitment fees. Not to mention share options and notice payments. And after all that, they may not even stay if they get a better offer elsewhere. Also, they won’t be working on your finances all the time you’re paying them once you take into account holidays, sick leave, training, general downtime and all the time they spend getting drawn into matters other than finance.

So is a good FD worth the money? My friend Tony told me a recent survey said that 9 out of 10 of companies believe it is. And 100% of the top performing companies think so. When you consider a good FD can bring at least 10 times their cost in added value to the company then the answer becomes very clear. The biggest challenge for a business owner is really going to come down to the commitment to the cost and the risk that they may not need all the time, all at once.

Will we see a part time FD being paid £1m, like the ones in the top UK companies? If they can bring £10m of value then it still seems like a good deal. Would you pay £100,000 for someone worth £1m? It would be hard to see why not, if you could afford it. What’s it worth to see your business protected from ruin? What’s it worth to see your business sustained during a period of economic crisis? What’s it worth to have your business prepared for the growth that can be achieved both during the current climate and in the future? When you look at it this way, you can see why companies are turning to FDs they can trust.

And that’s why I believe we’ll continue to see significant growth in the flexible and part-time FD market. Because smart CEOs and MDs can see the value they bring. And they like the flexibility and advantage of having an independent resource that can be called upon when its needed and dialed down during the quiet periods. And that’s definitely worth something.

I was having a discussion recently with a business partner of mine about whether the value of companies in the Web 2.0 sector is fully understood.

Back in the days of the dotcom boom we sold a company called Smartgroups to Freeserve for £60m. At the time we had very little revenues and certainly no profit. But we had a very good piece of software, a fast growing customer base and a great idea about how to generate revenues off the back of the service. Luckily, in Freeserve, we found a number of key individuals who completely understood what our company and service could bring to their business. Applying our software and service to their customer base could generate huge value for the business and that changed the way that the value of the company was viewed.

Now it would be easy to write off this deal as just another (for a change successful) example of internet euphoria. However, the priciples are still intact today and companies are still being valued and acquired on the basis of the future value they can bring to the acquiror.

If you read any academic or financial books on valuation of companies (and I’ve read a lot!) they invariably go down the route of valuing companies through variations on discounted cash flows (with or without terminal values), NPVs, revenue and profit multipliers (with much debate about the relative appropriateness of EBIT, EBITDA, EBITDAR, PBT or PAt), p/e ratios, betas and other more complex calculations involving variants of the Black-Scholes model or the Modigliani-Miller theorem.

However, in the past 20 years of working in this field, I’ve found there is a more fundamental valuation technique that seems to be known only to a handful of financial alchemists and some of the highest performing sales people.

A company is worth whatever the buyer is to prepared to pay for it.

All the financial analysis is generally used to justify the valuation (or at least give it some credence) after the event. Sometimes it stacks up, sometimes it doesn’t.

If you’re a large company, especially a quoted plc, who is looking to acquire a company that will simply add revenue and profit to your bottom line then looking at your own p/e ratio and applying that to the profit that will be added through the acquisition is a perfectly rational method of valuation.

However, if a company is being acquired because it brings new technology or IPR, because it solves a problem that has been holding back sales or development or because it brings a business advantage that can be applied across a much wider customer base, then the value needs to be considered in terms of the additional value it can bring to the acquiror.

A company like Oracle, for instance, with a Market Capitalisation of over $100bn may see that buying a company with a technology or business application that could enhance their profits by 0.5% could add $500m to their market value. This means that, although there would doubtless be some shrewd negotiation, the value of that acquisition and the price they might be willing to pay could rise up to $499m and they would still come out on top. Of course in practice this would be unlikely given all the risk factors involved but it allows you to see acquisition values in a different context. And if you have a software company that is just breaking even then it might encourage you to think wider than just achieving a high multiple of your profits.

After all this, the conclusion we came to (following the discussion at the start of this post) was that many people, even experienced financial experts and business people, still don’t fully understand how valautions are achieved. And after last week’s episodes in the financial markets they might be even more confused.

I’m currently working with a client where there is much talk of “Critical Non Essentials”. These are those elements that can give a business or a sports team a significant extra advantage over their competitors or opponents.

The phrase was coined by an Australian Dentist by the name of Paddi Lund, who radically changed his approach to dentistry and his clients and created a very successful business and reputation on the back of it.

The idea of critical non essentials was also taken to heart by Clive Woodward as coach of the World Cup winning England Rugby Team. Clive explains in his autobiography how he used the idea of critical non essentials to give the England team that extra edge they needed when facing opposing team of equal strength and fitness.

In business there are many Essentials that have to be addressed in handling customers, dealing with issues, managing staff etc. These are the basics that every company should be focussed on, although there are still many that are not. Each industry has its own aspects that are taken for granted and you should expect that your competitors are seeking to provide the same level as Quality and Service as you are. That’s why Quality, Service and Price are no longer enough as a USP. Because everyone claims them they are largely ignored by customers unless they’re obviously missing.

Critical Non Essentials will set you apart from your competitors and are the things that you don’t need to do but when applied they will make a huge difference to how you’re perceived by your staff and your customers.

What are they for your business? Well that’s for you to decide. By their very nature they are not generic. If everyone’s doing them they become essential and expected.

Grab a copy of Paddi’s book or Clive’s. Then take a look around at your business, and your career, and select a few Critical Non Essentials that could really set you apart.

I was at the BusinessLive08 exhibition yesterday and during a very interesting discussion on “Are we talking ourselves into a recession” (the answer was “yes we’re in danger of it, but we don’t really think we’re in one”), someone made an interesting observation.

He was selling IT consultancy and he said the response he was recently getting from prospects was “can we just wait a few months?”. In essence, they were saying “can we defer the decision?”.

It seems to be the default position of many people in business to go to “no decision” mode in the event of uncertainty, crisis, fear or worry. In fact, many people operate in “no decision” mode for much of their career. They tend to base this philosophy on the erroneous view that making the wrong decision could get you sacked, so making no decision at all could save your career.

The reason I moved away from big corporates and into the SME world is because I found far more willingness in SME directors to make decisions quickly and confidently. No protracted meetings, no bulky reviews or reports, no consensus debate. Just a straight “yes we will” or “no we won’t”. It saves so much time and it’s invariably much better for the business.

Unfortunately, I’ve recently seen more indecision creeping into the SME market. There’s more “can we wait and see” and “I’d like to think about it for a bit longer”. It may be a factor of the times, with fears of a recession abounding even if there’s no actual recession. As Dennis Turner (Chief Economist, HSBC Bank, who was very entertaining) pointed out, we have had 63 quarters of positive growth, we have historically low unemployment and interest rates and we still haven’t had one quarter of negative growth, let alone the 2 needed to define a recession.

If you make a decision then you can move forward. It frees you up and clears your mind. And maybe it will be the wrong decisions sometimes but then you have 2 choices, you can decide to do something else or you can focus on taking the actions that will make the decision right.

I really hope that the SME world doesn’t catch the indecision disease that seems so prevalent in the world of endless meetings, reports and discussions that so often defines large corporates.

If in doubt, make a decision. You’ll feel much better for it.

There was a great article by Jonathan Moules in the FT this weekend explaining how entrepreneurs will often try and run a business without anyone to guide them on their finances. It was titled “First find a finance director, then run the business”. It gives me a perfect opportunity for a blatant plug as well as some useful pointers.

The article describes how many business owners have found they’ve struggled through worrying about their accounts, cash and finance becoming distracted from the main focus of running the business. It also highlights that many are put off by the perceived high cost of a finance director.

The reality, as many have found, is that a good finance director can easily increase the value of the company by more than their cost through identifying savings in expenditure and improving margins and contracts. They’ll also free up your time to run the company and provide new insights and ideas for developing the business.

For a growing business, more and more companies are turning to a part time finance director in the early stages and benefiting from the financial knowledge and experience they bring. Another article in the FT last week also described how a part time fd can work for a business.

It’s good to see so many people realising how effective this sort of service can be for their companies and to see entrepreneurs understanding that they can do much more with their business when they focus on what they do best.

Earlier this week BDO Stoy Hayward published a report highlighting that fraud in UK business increased by 74% over the last six months compared to the same period last year. And that’s just the fraud that’s been found out and identified which begs the questions whether there’s an even bigger increase in the iceberg under that tip.

The cost to UK business is £705m. Again this is just the reported fraud and doesn’t include fraud that has not been reported (many companies like to keep it to themselves) and the incidents that have not been found out. And all expectations are that this is set to grow even larger, especially as the credit crunch bites.

The aspect that should be most concerning for companies is that 46% of the reported fraud is perpetrated by internal management. That means the people you trust to run your business could be the very ones with their fingers in the till.

Now there are some simple steps that you can take to reduce the risk of fraud in your company. You don’t have to fill your offices with cctv cameras, employ burly security officers and frisk everyone on their way out of the office (although it has been known). What you can do is apply some basic controls and think about where the key risks are.

One of the fundamental controls is to ensure you check references and details of people you employ. Fraudsters don’t generally turn up with a striped jumper, a mask and a “swag bag” over their shoulder and it’s unlikely you’ll see reference on their CV to stints in Ford Open Prison or a Community Service Order. What does happen is that people lie about their previous employment and reasons for leaving. Checking the details and references is not a perfect solution but you’ll feel pretty silly if it could have highlighted an issue and you didn’t do it.

Another important aspect is to consider where there’s a risk that someone could cover up a fraud. This is particulalry pertinent to smaller companies where the segregation of duties (separating parts of the transaction flow) is difficult to achieve. If one person can have access to choosing a supplier, raising a purchase order, taking delivery, paying the supplier and reconciling the bank statements then you’re open to abuse.

Fraud is often committed in small drips to begin with but can easily grow as a fraudster tries to cover their tracks or just gets more audacious and confident. Recent high profile cases have seen employees take off with millions of pounds.

The most challenging aspect for companies is that often the person perpetrating the fraud may appear to be one of the hardest working, always arriving early, always staying late, always willing to take on more responsibility. And that makes it all the more difficult for directors to believe that they may be committing fraud because it could mean losing a model employee. After the truth has come to light the reason for all that apparent hard work becomes apparent, as the fraudster was trying to prevent anyone else from uncovering what they were doing.

One of the best ways to spot fraudulent activity is to be able to really understand the finances of your business. If you know the patterns and you have a good idea of what to expect then you can more easily spot anomalies that point towards something being wrong.

Fraud is not something that’s going to go away, from the inside or the outside. What you have to do as a business owner is to make sure you know the best methods of prevention and detection or find someone who can show you. If you just ignore it and hope it doesn’t happen you could easily find yourself another statistic on next year’s BDO list.

Seth Godin has written an interesting blog entry today (as ever) talking about the magic of low-hanging fruit. It takes aspects of the 80/20 Pareto Principle and looks at a business perspective of where you can get the most benefit quickly.

He intially puts it in terms of changing the fuel consumption for drivers and shows how focussing on the drivers with the greatest usage provide the more beneficial outcome. He then expands this to compare the benefit of selling more to your existing customer base than selling to new customers.

In economics it’s long been recognised that a slight increase in price to all customers can vastly outweigh a cut in price to try and generate new customers. Price elasticity aside, it can be shown in simple terms that it’s better to generate £1 more on a £100 item from 100,000 customers (giving an extra £100,000) than to reduce the price by £1 and have to generate an extra 2,020 new customers at the new £99 price to make up for the lost revenue on the existing base (100,000 *1) and the extra benefit wanted (£100,000/£99).

Of course, in reality it’s not always that simple and in a very price sensitive market a 1% increase could drive away a chunk of your customer base (back to the price elasticity). However, we do spend a lot of time trying to generate new customers when you could provide enhanced service to your existing base to encourage them to spend more.

It relates back to the 3 main ways to grow a business:-

1. Increase the number of customers
2. Increase the average purchase value
3. Increase the frequency of purchase

Increasing the number of customers is usually done through an advertising or promotion campaign, which is rarely a cheap option. So it will generally cost you money to grow this way.

To increase the average purchase you can simply suggest an additional item at the point of sale. This is the model used by McDonalds (”would you like fries with that?”; “do you want to go large?”), Starbucks (”would you like any pastries?”) and the Electronics retailers (”would you like an extended warranty?”). Online, you see it with Amazon’s recommendations and “other people who bought this also bought …”). There are also other very effective ways to do this for services and products. It’s a very low cost method of increasing business and the customers feel they are being given a choice.

Increasing the frequency of purchase is generally achieved through education of the customer from the simple “your toothbrush is more effective at preventing gum disease if you replace it every three months, and just to make it easy for you it’ll change colour when it needs replacing” and the ever reducing “use by” dates in supermarkets to the more sophisticated bundled package for carpet cleaning or car servicing where you get a lower average cost per event if you buy a set and use them in a set time period. If done correctly (which may be questionable with the product warranties) the customers can feel that they are being looked after and given better service.

Think about where you can use these ideas in your business. Is there more you can do for your existing customers or are you always seeking to chase the new ones? Are you looking for the low hanging fruit or are you off planting new trees?

When you’re focussed on the detail in a business it can be easy to miss something major that’s going on right in front of your eyes. It’s easy to get bound up in the day to day running of the operations and lose sight of the things that could really make a difference to the way you work.

As an example, take a look at this video of a group of people passing two basketballs and count how many passes of the basketballs are made by those in white shirts. Do not count the passes made by the people wearing black. The video takes a short while to load and you need to press the green play button at the bottom of the page.

Just watch it the one time and then go here to submit your answer and discover something very interesting.

Is there anywhere in your business where you might be too focussed in the detail to see what’s really going on? If your immediate answer is “no” then you might want to take a little longer to think about it, as that makes it even more likely you’re missing something.

Sometimes it takes an outsider to highlight the issue you’ve been missing. That’s why Non-Exec Directors can be so useful to boards. Often a person who is not too deep in the business and not spending every day there can bring a new, and sometimes eye opening perspective.

I’m currently reading Wikinomics and it’s a great insight into how collaboration is driving new ways of working. It’s the driver behind Linux, Google, Flickr, Wikipedia and the whole blogosphere. And this week we saw Nokia opening up the old psion mobile operating system of Symbian to the developer community. Large corporates are grasping what the Web 2.0 community have already seen, that collaboration and community can drive significantly faster development and create size and value quickly. There are still some challenges in determining ways to make money from this but it will follow the quality and in an open market where everyone’s a judge and has an opinion, marketing and spin alone will no longer be enough.

The biggest challenge comes for SMEs and the associated investment community. One of the first questions many investors ask is how strong the Intellectual Property Rights (IPR) are. Traditionally IPR has been seen as a key component of value as a barrier to entry and a saleable asset in its own right. In a world of open source and collaboration the lines start to blur betwen who owns what and to focus too much on IPR could lead to missed opportunities.

When I’m dealing with companies that are starting or developing their business, I often find there is a high level of paranoia about their ideas and business models. The SME world is full of (largely unenforceable) Confidentiality and Non Disclosure Agreements. However, when you enter the Blogosphere you find a cornucopia of ideas ripe for business use that are freely available and open for anyone’s use.

More SMEs need to grasp the 2.0 philosopy of opening up to customers, suppliers, and the wider world of the internet. Allow your user base to help you grow and keep giving back to them. When you have a small, growing company you need all the assistance you can get and there’s plenty out there willing to help. It gives you more flexibility and more access to knowledge and expertise that an SME generally can’t afford.