Numbers in the Sun

Daptiv, Inc., a Seattle-based provider of on-demand collaboration software for businesses, sells annual software contracts to its clients. Given the way in which it receives cash and records revenue — Daptiv gets paid at the beginning of the contracts and then recognizes revenue over the next 12 months — the income statement, despite the attention it generally receives during the budgeting process, has numbers that don't always provide a clear picture of the company's financial health and future, notes Nancy Ordway, chief financial officer.

During Daptiv's budget process, Ordway pays close attention to several numbers and ratios that don't appear on the income statement. One is the deferred revenue account on the balance sheet, which shows the revenue that Daptiv will be recognizing over the upcoming 12 months. A downward trend here most likely indicates stagnating business. “In our case, the income statement can look pretty good, but the balance sheet can show that we're not doing as well as you would believe,” Ordway says. Daptiv uses Budget Maestro from Centage Corporation.

Another balance sheet item that gets a lot of attention is the cash account. Even though Daptiv receives payment at the start of each contract, the company is growing quickly — in 2007, the total number of users jumped by 116 percent, to more than 700 — and this growth consumes cash. Management ties some activities, such as the hiring of new employees, to its projected cash levels. “If we just looked at the income statement, we wouldn't know our cash position,” notes Ordway.

Until recently, many financial departments would prepare budgeted income statements each year and then simply let balance sheet and cash flow follow from those, says Steve Player, North American program director for the Beyond Budgeting Round Table, a not-for-profit collaborative dedicated to helping organizations improve their performance management. In addition, Player, who writes a regular column for Business Finance, is chief executive officer with The Player Group, a Dallas-based consulting firm.

Focusing on numbers from just one statement can prompt some “less than stellar” business decisions, adds Alan Anderson, CPA and managing principal of accounting and assurance services with LarsonAllen LLP, Minneapolis. For instance, management may set a goal of ramping up sales by 20 percent but neglect to factor in the impact of higher receivables on working capital.

Now, a growing number of financial executives are taking a more holistic approach to budgeting and placing greater emphasis on budgeting for the cash flow statement and balance sheet, as well as the income statement. Just four or five years ago, about 50 percent of clients prepared budget balance sheets, says John Orlando, chief financial officer with Centage Corporation in Natick, Mass., a provider of budgeting software. Now, about 90 percent do, he estimates.

In fact, business unit leaders at some companies today are taking responsibility for cash flow and balance sheet numbers, as well as measures tied to the income statement, says Chris Houle at Quantrix, a provider of business analytic software in Portland, Me. “The three primary statements have to be tightly integrated in a robust business model.”

Perhaps the greatest driver behind this trend is the need to more precisely forecast cash flows. This is particularly true for companies that are self-funded and have less of a margin to make mistakes, Orlando points out. Their financial team has to have a good idea of the company's cash flows, and they can't rely on the income statement to provide that information.