Bowen, founder and CEO of CEG Worldwide, previously worked as a financial advisor and firm executive. He served successively as CEO of Reinhardt Werba Bowen Advisory Services and Assante Capital Management.

Spring Cleaning

As a financial advisor, you're probably quite adept at formulating investment plans and managing relationships, so your clients remain on a disciplined track for achieving their most important goals. But when it comes to achieving your firm's most important goals, you probably don't take the same approach to implementing an effective financial system or applying the same vigorous discipline to ensure that you and your business remain on track.

Advisors are often so busy working in their businesses that they believe they don't have time to work on their businesses. The large number of advisors who have high gross revenues but mediocre net incomes is evidence of the problem.

This problem can get even worse in tough economic times like the ones we are experiencing now. Advisors are working overtime to calm agitated clients and reposition portfolios for a changing future, and they don't have time to sit down and evaluate their own businesses. To make matters worse, flaws in business planning that may have been overlooked when revenue was rising are now visible to all as markets remain on a turbulent course.

It's time to get your financial house in order. A good financial system will provide you with important context around your raw financial data, letting you make informed decisions about every aspect of your business. It also will give you accountability to the numbers. Your chief financial officer—a key element of any good financial system—will be able to bring a disciplined approach to your finances, requiring you to face problems directly and encouraging you to pursue promising opportunities. To create an effective financial system, incorporate five key elements: forecasts, benchmarks, financial reporting, financial controls and exit analysis.

FINANCIAL FORECAST
Your financial forecast translates your business plan into a working financial model. The business plan must come first, of course. (See "Formal Wear" in the May issue for more.) But unless your plan is translated into financial information, you will have no way of determining if your business is on track, whether you've achieved major goals or how you should respond to new opportunities—all key issues that you'll face as the industry moves forward and emerges from the recent terrible market.

There are six important parts of a financial forecasting model:

• Revenue forecast. This provides the results for each revenue stream of the business.
• Budget for staffing and compensation. This looks at current compensation for existing staff, the compensation plan over the next two years for existing staff and any hiring you want to do over the next 24 months.
• Operating expenses. Your forecast should include a discrete budget for each area of spending (marketing, advertising, rent, insurance, etc.).
• Balance sheet. A key element is the working capital forecast, which indicates the level of internal funding available for ongoing operations.
• Cash flow statement. A cash flow statement is critical. If you start running low on cash, it will put pressure on the business that may affect hiring plans and your ability to meet client needs.
• Financial snapshots. They typically include a written summary, a profit/loss statement and key benchmarks (such as assets under management, total number of clients and how much the business is earning per professional staff).

BENCHMARKS
It's not enough to take a simplistic revenue assumption and say, "As long as our revenue is moving from X to Y to Z, we'll be fine." These kinds of assumptions often do not play out in the real world. Instead, your financial system should base its assumptions on the actual results you must have to achieve your goals. It should integrate the various parts of the business plan to understand what it really means and what it yields in profit. And it should provide benchmarks for revenue and expenses, all based on what you need to achieve.

To set revenue benchmarks, ask specific questions like, "In order to grow my revenue, what are the specific services I will offer? How will I expand my client base? How much revenue should I earn from each client? How many of each size client should I have? How quickly should I gain additional assets from these clients?"

To determine benchmarks for expenses, ask a different set of questions. They might include, "What staffing levels do I need to achieve my numbers? What number of new clients requires us to add another administrative staff person? For the expenses that accrue to each senior partner, how much in additional assets should each of them bring in each quarter?"

FINANCIAL REPORTING
You need to take snapshots of the business periodically to see if you are achieving the results you want. Are you doing better or falling short? On at least a quarterly basis, you should look at revenue, expenses, profit and cash flow at both a high level and a detailed level. Compare your budgeted figures to the actual results. Where is there a variance and how large is that variance? If an item varies by just a few percentage points, it may not be a concern, but if one of your key revenue streams is off by 50%, you better address it quickly.

In addition to the numbers, a good financial report will include a written discussion from your CFO about the key elements of the business. It's useful to spell out and highlight the major findings from the financial reports, as well as recommend actions the business might take.

FINANCIAL CONTROLS
If underlying transactions have not been recorded and categorized properly, then any information you get will be of little use. You need procedures in place to ensure that all revenue-generating transactions, cash, vendor invoices and payments are properly recorded in the accounting system. A core accounting system will handle general ledger transactions, track both client accounts receivable and vendor accounts payable, and provide a variety of financial reports.

Your financial system should include detailed documentation of your policies on how transactions are entered into the system, how they are double-checked and who is responsible for each operation and business process. Do not authorize any one person to make both deposits and disbursements, no matter how trustworthy that person may seem to be.

VALUATION/EXIT ANALYSIS
Part of why you work is to maximize your firm's value for when you eventually exit the business. For this reason, any effective financial system will include a pro forma evaluation of the firm. With this type of evaluation, you will be able to see what the long-term result of your current plans might be.

Our survey of more than 2,000 financial advisors indicates that wealth managers (who earn $881,000 on average) are more focused on maximizing their firms' value than are investment generalists (who earn $279,000 on average). About 34% of wealth managers are concerned about maximizing the value of their business, compared with 21% of the generalists.

PULLING IT TOGETHER
The resources needed to create and implement a financial system with the elements discussed above will depend to some degree on the size of your practice and the skill set that is already available. That said, you'll certainly need a CFO, a controller or bookkeeper and a certified public accountant (CPA).

You can outsource each of these three roles-even the CFO. By outsourcing, you will have top-shelf talent by your side to help you build a great firm, without having them on board full-time. Free agents can assist you on a part-time basis with a broad range of tasks. By taking advantage of the Internet, you can even work with a virtual CFO. This option enables you to select from CFO talent nationwide, with no geographical restrictions.

In any case, do not try to fill the CFO role yourself. It's difficult to hold yourself accountable in the way that a CFO will. (A few people can do it, but very few.) Just as important, it will distract you from your core competencies of client relationship management and business development.

The current tough environment has reminded all of us of the importance of running our businesses as intelligently and effectively as possible. Mistakes you might have made that went unnoticed when revenues were rising fast from year to year are revealed now that you're facing an uphill battle. Don't get caught short. Focus on your business and its finances now, and you'll be well positioned for whatever the market throws your way.

Reprinted from: Financial Planning