EP 27 - Foundations of Transition: Financial Fluency and Clarity

In this podcast episode, Jason and Makenzie continue the Foundations of Transition series by exploring the importance of financial fluency and clarity. This workshop-style conversation helps business owners better understand the numbers behind their business and why financial confidence is essential for making informed decisions throughout the ESOP journey.

This episode encourages owners to move beyond simply reviewing financial reports and begin interpreting what the numbers are telling them. Jason and Makenzie discuss how clear reporting, visibility into key performance drivers and a deeper understanding of financial metrics can reduce uncertainty, strengthen decision-making and prepare business owners for a smoother, more successful ownership transition.

Transcript

Why Financial Fluency Matters

SPEAKER_02 0:00

This is our seventh episode of our 12 part foundations of transition series. And today what we're going to be covering is financial fluency and clarity. And we've got this broken down into five different what we call what we're calling equal signs or dangerous equal signs. Welcome back, everyone, to the Journey to an Aesop and Beyond podcast, where we seek to make all things related to employee stock ownership plans both accessible and understandable. I'm your co-host today, Jason Miller.

SPEAKER_01 0:40

And I'm McKenzie Worth.

SPEAKER_02 0:43

We'd like to say happy birthday, America. So I don't think there's much more like being American than rebelling over taxes and then taking action. And so to help you on your journey to an Aesop, this is our seventh episode of our 12-part Foundations of Transition series. And today what we're going to be covering is financial fluency and clarity. And we've got this broken down into five different what we call what we're calling equal signs or dangerous equal signs. And one concept is usually conflated with another one. And we're going to break those pieces apart in the context of financial fluency, which is the next step from financial literacy, which we've addressed before with our guests from The Great Game of Business and earlier in our foundation series. So with that, one of the questions that often comes up in almost every successful company is Ann, if things are so good and the company is growing, why do we have to be so careful with spending and hiring or distributions?

SPEAKER_01 2:06

Yeah, I think that's a really good question. And I think it probably means that people are aware of numbers and they're being told numbers in terms of revenues and profits, but maybe they don't have the story or the full story behind the numbers.

SPEAKER_02 2:26

There's always a story and there's always interpretation. But today isn't just about teaching people how to read financial statements and say, here's what this number is, but about helping people understand what those numbers actually mean.

SPEAKER_01 2:42

Yeah, I think looking at financial literacy versus fluency is they sound very similar, but I guess there is a bit of a distinguish distinguishment between the two, where financial literacy is being able to learn the language and learn the language of financial statements, whereas financial fluency is understanding the entire story and related consequences.

SPEAKER_02 3:09

And that's why we're talking about these five dangerous equal signs.

Revenue Does Not Mean Success

SPEAKER_02 3:14

So without further ado, I'll start with the first one. And I think this is a common misconception, just in in general, related to business, from those that aren't necessarily business-minded, even to those of us that may be more business-minded. And that is revenue equals success.

SPEAKER_00 3:39

Yeah.

SPEAKER_01 3:40

And I think we often speak in terms of revenue when we're talking about companies. It's their $100 million company, $5 million company, whatever it is. We're always referring to revenue, but revenue just simply tells us that we sold something. Or we sold, it may not be something, may not may not be a product, maybe it's a service. However, it doesn't tell us whether we collected the actual cash, assuming you're accrual basis, that your margins are protected, or that your business has been strengthened by that revenue growth or revenue number.

SPEAKER_02 4:20

So what you're telling me is that a company can actually grow, become less healthy.

SPEAKER_01 4:31

Maybe you discounted too heavily to win work. Maybe you have a lot of customer concentration. So maybe one customer represents a significant portion of your revenue.

SPEAKER_02 4:45

Or maybe you're growing faster than your people or your systems can support what came to mind is I was saying that in growing and becoming less healthy, it's like obesity for business, kind of strip stressing all of the systems more than not maybe eating the wrong things. Maybe there's there's something underlying an underlying condition that tells a story that leads to growth without staying on par with with health. No offense meant in any of that analogy, just the weird things that that come to my head as we talk through.

SPEAKER_01 5:32

How does this relate to an ESOC company, do you think I think it's important that employees who are now in the mindset of being owners, if they get hooked on that revenue number and they're celebrating revenue growth, they shouldn't necessarily just always be celebrating it because it's it's bigger or it's higher. They should celebrate growth that is profitable and sustainable and makes the overall company stronger.

SPEAKER_02 6:15

So revenue is more evidence of demand, which is a great thing to be in demand, but not necessarily evidence of health. Right.

Profit Does Not Mean Cash

SPEAKER_02 6:27

Now we get to a fun one that whenever there is a political conversation around taxes and business taxes and what companies should be paying taxes. I'm only harping on taxes again because we're very close to July 4th, and I think it's fun. So this second equal sign is profit equals cash.

SPEAKER_01 6:54

I think this is a good one. It can be probably confusing, but profit measures performance, whereas cash determined capacity. So you may have, especially if you're if you're thinking accrual basis, which most of our clients are, you may have performed all the work and earned the revenue, but if you if your customers haven't paid yet, you don't have that cash. So just because you earn the revenue, that doesn't always equal your cash balance or your cash position and capacity.

SPEAKER_02 7:40

That's probably I say probably, I know it's a little more delicate and fragile with an ESOP company because you have other obligations to worry about than a traditional company. When we think about repurchase obligation or we think about the debt service on the acquisition indebtedness, and then still having to reinvest in the business so that it achieves its strategic objectives as a company. And a profitable year may be an indication of success, but it doesn't mean that there's excess cash available to satisfy all of those needs. So I guess instead of saying trust us, the the cash is complicated. Leaders should often try to explain where the cash is actually going.

SPEAKER_01 8:38

Yeah, I think the profit only tells part of the story, but the cash determines what the business can can actually do.

SPEAKER_02 8:47

Cash is king. Cash is king. Sorry, King George III. We'll see how many of these we can fit in today as we go through.

Valuation Does Not Mean Proceeds

SPEAKER_02 9:00

So our third equal sign is the this one is probably most important for owners. And that's valuation equals sale proceeds. So McKenzie, unpack this one a little for us.

SPEAKER_01 9:19

Yeah, this is definitely one that I think can can be misconstrued. And it's even when we're working with our clients, educating them on how value is derived and calculated and what factors are considered from the PL versus the balance sheet. As you said, valuation does not necessarily directly equal the proceeds that you'll receive in a sale. The actual proceeds depend on other factors such as debt, taxes, the costs of the given transaction, the deal structure, and the timing of payments based on where that deal structure lands. So it is not as simple as the valuation is equal to the sale proceeds.

SPEAKER_02 10:14

If only things could be simple. I would think. And as as we're considering, or as you, listener, are considering becoming an employee-owned company in an ESOP, another question matters just as much, which is can the company successfully support the transaction while continuing to invest and grow? And a financially responsible transition isn't isn't just possible, but it should leave the company healthy afterward. That

Share Price Is Not Instant Wealth

SPEAKER_02 10:59

kind of leads us to number four, which is when companies become employee-owned, this is what commonly appears, and it's another misconception, is that share price equals employee wealth.

SPEAKER_01 11:17

Yeah, I thought this was an interesting one. Of course, the goal is to increase the share value of the company, and that 100% matters and is important in rolling out the ESOP and continuing your communication of the ESOP. But it shouldn't just be a one-time goal that the employees are working towards. It's more of a long-term benefit. So it's not only chasing or working towards a higher share price, but building a company that maintains that high share price and that maintains its value that you're reaching towards.

SPEAKER_02 12:09

I like that perspective. And if the company thinks about long-term sustainability and repeat ongoing, again, using the word sustainable growth, then it's a a constant target for value. And it's not moving goalposts. So there's a subtle distinction between those. And we we talk about this pretty often with clients around most of the things that you know that are the context that you have around uh publicly traded stocks, uh, similarly apply to the stock of your company and the stock of an Aesop company. There's a market and there's a price, and there are shares. And those shares are owned by the trust, but allocated to the employees. We can we can talk about that at length as well. But the market doesn't report from 9 30 to 4 Eastern every day, second by second. And you don't have an opening and a closing share price to worry about when there's macro news. You have an annual share price that you contribute to and that the employees contribute to. And I think that helps not to worry about, oh no, we're in the red today, or we're we're in the green today. Or in the black, I guess is a better way to look at it. In the black today. So how how do you think employees should think about share price and their wealth?

SPEAKER_01 13:51

I think this goes back to previous episodes we've done, I think, as part of the foundations of transition series, but the employees should understand how their their role and their daily I don't want to say daily task, but how they show up to work daily and how they execute their role can uh contributes to building the long-term value of the company in terms of whether that's their productivity, their customer service, customer service, safety, quality of their work, being able to tie those two pieces together. So it's not just watching the number, meaning the share price grow, but it's an influencing what creates that value.

SPEAKER_02 14:46

That's a great point. And when we talk about this financial fluency, that's that's really what we're encouraging you to help instill in your workers is not here's here's eBITDA or here's a particular KPI, but we have the record of of that. Now that we have the record, what's the meaning of of this? What how did it get here? Why is it higher or lower or sideways? And then it's what what can we do to improve or maintain or correct what this means and asking those questions around the hows and the whys rather than what is just the meaning of this number? So

Transparency Without Clarity Fails

SPEAKER_02 15:42

our final dangerous equal sign is that transparency equals clarity. And I may have preempted this one a little bit, Kenzie. What do you think?

SPEAKER_01 15:54

Yeah, I think sharing more numbers, having that open book policy doesn't automatically create an understanding. It can sometimes actually create more confusion.

SPEAKER_02 16:09

So what does clarity look like?

SPEAKER_01 16:13

I think it's important when you're sharing those numbers that you're kind of back to what we've said before, you're explaining the story behind those numbers. You're explaining what has changed, why it changed, what management and leadership is focused on, and then what decisions follow. I think it's also important when you're transparent with your financials, like there's probably a balance of how much do we share, like not getting too into the details to create more confusion, but finding that happy medium of transparent enough that they can understand the story to help to help bring the whole the whole picture together, but not giving too many details that it's overwhelming and confusing.

SPEAKER_02 17:12

So what you're saying is that uh basically a a giant data dump of uh quarter-end and year-end financials is not necessarily the same as a communication strategy.

SPEAKER_01 17:26

Right. You may not have a lot of financial statement readers if it's just dumped, maybe filed away.

SPEAKER_02 17:35

So

The Questions Fluent Teams Ask

SPEAKER_02 17:36

what what does a company that is financially fluent look like? What kind of questions can they answer?

SPEAKER_01 17:51

Yeah, I think a financially fluent leadership team within a company could answer questions like what is actually driving our performance? Where is the cash going? So if we're if we're profitable or if the perception is that we're in this big growth period, what is consuming all of the cash? And then what decisions should follow? What decisions are being made and what decisions are thought about being made in the in the coming months.

SPEAKER_02 18:34

And that a company that is financially clear, that has clarity around its financials, are able to kind of consistently explain what's changed, why it changed, what it means, and then I think the most important part for any company, but especially for an ESOP company, is what then can employees influence.

SPEAKER_01 19:04

Yeah, and I think it's important to note that the goal here isn't making everyone financially fluent or literate enough to then take on a CFO role or kind of like be at that level.

SPEAKER_00 19:23

I think it's just making sure people aren't making decisions based on rumors or incomplete information or assumptions from from financials that are not explained.

SPEAKER_02 19:43

I think that makes a lot of sense. There's probably balance in that too, right? And how do you how do you roll out such a strategy to be transparent to what to what degree, what level of the organization are you going to be transparent with the financials? And how do you develop a plan to create the space to create that element of culture that allows them to become fluent at at their particular level to that degree that you're you're willing to build that plan so that they can answer those questions? What changed? Why did it change? What does it mean? And then finally, what can I do about it to improve, again, maintain or correct?

Transition Promises Meet Financial Reality

SPEAKER_02 20:35

So as that leads us into this idea of transitioning your company to new ownership, specifically employee ownership. Every single transition creates promises. Promises to you as as owners, promises to employees, promises to to your customers, and also promises to future leaders. And that's gonna look different for every company and also every transaction, whether it's an Aesop or not. You're you're saying something to yourself, your buyer is saying something to you. You're likely trying to assure all the people that you that work for you that, hey, things are are gonna be as as much as possible the same as they were before. And we talk about that often in the context of an ESOP transaction, is the company will be what it was the day before the transaction, the day after the transaction. And it's one of the great benefits of continuity that allows for this culture element to permeate. And then how does that impact your future leaders? And what what promises, uh whether explicit or implicit, have you made to them in the past, what they should expect about their future? And everyone likes to say to their customers, regardless of change, hey, everything's gonna be at least as good as it has always been, if not better, because that's that's what businesses tell their clients when when change is is changes around.

SPEAKER_01 22:17

I think eventually all of these promises, even though with transitions and transactions, the change isn't overnight. It can take time. So eventually those promises have to meet reality. Specifically in our the context of our conversation, financial reality.

SPEAKER_02 22:44

So you shouldn't be asking just whether the company is growing.

SPEAKER_00 23:01

You may ask whether it's getting stronger, not just growing.

SPEAKER_02 23:09

And then don't ask only whether it's profitable.

SPEAKER_01 23:18

You can ask whether it has the capacity to keep its commitments.

SPEAKER_02 23:24

And don't ask only what the business is worth.

SPEAKER_01 23:28

You can ask instead what it will take to preserve that value for the next generation.

SPEAKER_02 23:35

So financial fluency isn't about memorizing numbers. It's about understanding what those numbers require of us. And the strongest transitions aren't defined by the biggest valuation. They're defined by building a company that's strong enough to keep the promises that it made along the way to all the people it made those promises to.

Strong Companies Keep Their Promises

SPEAKER_02 23:59

So on today or during this week, where we're celebrating America's 250th birthday, America is a promising country that has made a lot of promises to its people for liberty, right? And the pursuit of happiness. And we enjoy nothing more than helping clients like you achieve an exit, a transition of your ownership in a way that honors all that you've brought to your company and its success. And we like doing that in a very tax-efficient way in order for us to celebrate properly some of the instigations of what created our great country. So we thank you for listening to us and for joining us on our seventh of our 12 Foundations of Transition. And we will see you next time on the Journey to an Aesop and Beyond podcast. Thank you.

SPEAKER_01 24:59

Thank you.