Just because it’s old doesn’t mean it is bad. Regardless of the technology we use, many business threats remain true over time. How can you assess these threats to your business? We begin by understanding how to measure threats, and then look at the first major area of threats: financial.
What is a threat? My definition is that it is a known deficiency that will cause business turbulence over time if not corrected. Lack of cash would be an obvious example.
The Department of Defense uses an approach that I’ve modified. They realize they can’t measure whether the troops can beat up the bad guys, so they measure whether we are doing everything we know we should be doing.
An excellent rating says a unit has all the equipment, training, and manpower to accomplish its mission. A lower rating may indicate it has a slight lack in equipment, manpower, or training. A further reduction would mean it has a deficiency in more than one of the areas, and a further lowering would be based on a significant deficiency. At the bottom would be a serious and sustained deficiency.
Relevance to Business
In adapting this concept to business, we start with a 20-year time horizon. Can we see this item causing problems (turbulence) over the next 20 years? The best rating is no, there’s nothing in this area that we know could cause turbulence within 20 years. That doesn’t mean something won’t occur. It means we are doing something about everything we do know about.
A lower rating is where one area may be lacking with a second step-down if two or more areas are lacking. An additional lower rating would mean there’s a significant deficit which reduces the time horizon in which we expect turbulence within five years. The final and lowest rating is where there is a serious and sustained deficit in which turbulence can be expected within a six month period.
Now, what areas are rated?
The broad first is financial. A company without cash dies. So cash is the basis of the first three tests. Obviously, the first test measures the cash we have against benchmarks. An additional measurement is whether we have financials to understand how much cash we have and need.
Burrowing deeper, a third test is accounts receivable, which often is a company’s greatest asset. We measure not only the health of receivables (30-60-90 days), but also our ability to track and maintain them. An example is a manual accounts receivable system. The problem with a manual system is that a fire could destroy all of our records, as well as the obvious inaccuracies that creep into such a procedure.
Most use computerized accounts receivable these days, which is preferred because of backups. A copy can be made easily in case something goes wrong. Deeper in this area is the protection of the backup. How often is it done? The frequency of the backup is most important because most cash owed to us is recent. We don’t want to reconstruct receivables based on what was owed us 90 days ago.
The final concern must be protection of the backup. Is it stored, as many do, beside the computer so that the fire destroys both the computer and the backup? What about a fire proof safe? With magnetic media, we must not only be concerned about actual fire, but heat as well. Magnetic media of all types turn into molten plastic with heat.
So, is a current backup stored offsite on a regular basis? Cloud storage of receivables is a popular and effective alternative, but verify that the backup can be restored. One printer had been backing up to the cloud for a year, but found the routine defective when needed.
Finally, in finance, there’s the cash-flow budget test. Does the budget leave us in the position of having an appropriate current ratio and days’ cash on hand at the end of the period? I recommend a 2:1 ratio and a 30-day period).
I will describe other tests in the next installment. Nevertheless, the first major test is financial for without cash, we die.