I teach financial acumen to senior leaders all over the world. Although financial regulations, cultural practices, and market dynamics differ, understanding the timing trajectory of financial and business measures is key to every class I facilitate.
And it can be complicated.
Let's imagine, for instance, that you are a leader in a manufacturing business and a big sale is made. What might that look like?
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The first impact will be after the books are closed for the month. At that point, the product costs and revenue for the sale are recorded on this month's income statement, even though the direct material and labor expenses were incurred up to a year ago.
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The sales team’s current expenses are also on this month’s statement, but if the selling cycle was a six-month process, most of that investment occurred in the previous five months.
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Let's say that you established generous 120-day payment terms. Although the sale is booked and the product shipped, no payments have been received — and, even then, you are not confident when the payment will actually arrive.
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On the balance sheet, you see that:
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Inventory goes down by the direct cost associated with the sale.
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Accounts receivable goes up by the selling price.
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The warranty reserve goes up, according to a formula.
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As you can see, there is often little impact on the cash flow statement at the time of the sale, but a lot will happen both before and after it. If you execute long-term contracts or provide software licenses, the timing variables may be even more complex.
Essentially, financial measures are not very helpful unless you understand the timing of your business—that complex arc of what happens and when—and how it relates to the reporting process. This is also true with other measures in your business. For instance, the impact of a product innovation may increase customer interest soon after the innovation is launched, but you will not understand the impact on revenue until the six-month selling cycle is complete. You will also not see the impact on repeat business and warranty performance for a year or more. Similarly, the impact of successful employee retention programs on turnover and engagement will often expand as time passes.
That’s why I am so lucky to pair business simulations with the leadership content I teach. (Pictured below are some of our simulations in action.) We make the content as engaging as possible with exercises and examples from the client's own financial statements, but the light bulbs really go on when participants practice making decisions with a well-honed simulation.
By condensing time, a simulation highlights the impacts of participants' decisions across reporting periods. Our simulations run multiple rounds, and participants can see and understand, for instance, that saving money on building inventory or staffing during an early round limits options in the subsequent one. Adding market interest rates or corporate hurdle rates allows leaders, over time, to experience the cost of poor cash management.
All of our business acumen simulations combine these transactional decisions with real-world challenges that leaders face: building and maintaining organizations, setting direction, innovating, and responding to crises—all of which have their own complex timing cycles. Our simulations give leaders fertile ground for the practice of financial reporting and its complicated components, and participants do so without risking their real-world business. Such interactive and dynamic decision-making makes the time trajectory come to life.
Understanding the components of financial reporting is tremendously helpful to leaders, but the real magic comes when they understand the timing dynamics so that these measures can better inform future decisions.
Read more about Insight Experience's simulation-based learning programs that grow leadership skills and develop business acumen.
