The Clinic

Is your business a keeper?

To turn your business into a keeper requires you to plan well in advance, and to be committed from an early stage to grow the business to a scale that can support a proper segregation of duties.

All business at its very base is a tense partnership of labour and capital to exploit an opportunity. In small businesses the partnership is not obvious as the labour, ownership, management and direction of the business are all rolled into one.

The first step in developing a business that you can choose to keep is a realisation that these roles are distinct and require separation. For many their very make up makes this an impossible task.

Labour is obvious, it is the doing part of the equation. If most of your day, is “doing” then you do not have a business at all, you just have a job, which might be well paid. The first step to create a keeper is extracting yourself from the doing part of your day.

To do this you have to understand what you are actually doing. Write it down identify every task. Then identify the tasks you hate doing. Identify every step that you take in these tasks and every problem you encounter and document the logical fixes that you do intuitively to fix these problems. Repeat the process for every other task that you do. Then turn these task descriptions into job descriptions, and process manuals. Set about recruiting a team to do these tasks and devote your available time to managing and training the team.

First objective: “ within three months I will not be doing anything I hate.”

Your aim is to systematise every routine task in your business so that you can train others to do them and simultaneously develop reporting and information systems to enable you to manage these activities. Consultants who work in this area can be very useful, not only can they document what you do; good ones can also advise on “process improvement” a new label for a new bred of consultants.

Next objective: within six months I will have documented all of the business processes and have recruited a team.

The role of management is also just a job and part of the “labour” part of the partnership. Management’s role is execution of the strategic decisions of the owners, and responsibility for the efficient running of the business. Management makes day-to-day decisions. Think about it this way, managers make decisions on how the business will operate, they own the Profit and Loss account, but when a decision impacts the Balance Sheet, (i.e. it requires capital) the consent of the owner must be obtained.

Once the business has sufficient scale, management functions will segregate. Usually into these broad categories, finance, operations, human resources, Information IT, intellectual property and marketing. These functions report to a Chief Executive officer. Each of these functions subdivides as well if the business has scale and complexity.

Next objective: within three years I will have recruited a management team.

If the business is in the legal form of a company, and it should be, then the company must have a board. The role and value of a functioning board is not well understood. Over the last five years another bunch of consultants have emerged to explain the quite simple relationships between owner’s, boards and management, this is called “ corporate governance”.

A board of directors is the bridge between owners and workers. Directors are the representative of owners in the partnership or the agents of the owners, and they should behave as responsible partners with labour in the business. The role of directors is not to run the business but rather to direct it. Governance is a body of thought about how directors direct. The role of directors is to participate in the setting of business strategy, approve business plans, monitor capital allocation, and be loyally critical of management while preserving a relationship of respected mentor. Boards also have the responsibility of dividing the economic cake between labour and capital and recruiting senior team members. The board should also be identifying and managing business risks, ensuring that systems are in place to provide it with reliable data, checking that data and reporting on the business activities to shareholders in a way which is useful and accurate.

To develop a business that you can keep you must separate out the board functions from management. The first step towards this is to appoint an independent director. In essence this is just another recruitment process. Eventually you will have to surrender the role of CEO and assume the role of a director.

Next two objectives: within five years I will have a functioning board of directors with at least one independent director and within seven years I will no longer be CEO.

There is one further role to discuss, that of auditor. The audit function is part of the governance process but is also part of the process of documenting and checking the operation of systems that will be so important to you when you cease to work day to day in the business. The auditors’ role is to report independently to the owners on the financial position and performance of the company, and to report directly to the board on risk and system issues affecting the business. By the time you choose to withdraw from the business the audit function should be well established.

Next objective within the year I will have engaged with an accountant, which should be independent of your day to day accountant, to complete the first audit or review engagement of my business.

Like all professional relationships it will work best if the personality fit is right, but don’t expect an auditor to tell you want you want to hear, they must retain their independence.

And the final role you have in your business that of owner, is the hardest role to define. There is very little written on what it means to be an owner or what the task or role of ownership is in the business process. There is some material on this on the New Zealand Shareholders Association Website, www. nzshareholders.co.nz. Your rights as an owner are to elect the board, vote on major issues, set the fees of directors and to sell your shares. But with rights comes responsibilities. In my view your task is to be a responsible owner of an asset that performs and to have a passionate interest in its sustainable performance.

To develop a business that you will have the choice of keeping long term you must:

· Understand the many hats you wear in your business and set about separating them.

· Build a team and systematise all routine functions.

· Have systems of checks and balances and robust reporting of activity and results.

· Plan your succession from all “doing” tasks including management.

· Develop functioning board and audit functions.

· Develop an understanding of the rights and responsibilities of ownership.

Now these steps may challenge your very nature, and you may not be up to the task, and if not then keeping your business is not an option, but many of these steps will be useful in maximising the value in a sale process in any event.

Disclosure of interest: Bruce Sheppard is a partner in the accountancy firm of Gilligan Sheppard, which offers Audit services to SME’s. Bruce Sheppard also advises on issues that are now known as “Governance.” and is chairman of the NZ Shareholders Association Inc.

Next blog... grooming the business for sale.