A balance sheet is a business owner’s best friend

  • By James McCusker Business 101
  • Wednesday, November 28, 2012 11:06am

What do Volkswagen and a two-restaurant pizza chain have in common? They each have balance sheets — one extra large and one small. What they also have in common is that their balance sheets recently played a key role in their company.

Balance sheet weakness meant one company nearly had to close its doors forever. Balance sheet strength is fueling a rapidly expanding market share for the other company.

It was the pizza restaurant business whose balance sheet gave it a near-lethal case of indigestion.

The Illinois business, Nick’s Pizza &Pub, is still small, with just two restaurants, but the story of its survival has some lessons for all of us. Nick’s was started in 1995 by Nick Sarillo, who learned the ins and outs of the business in his father’s pizzeria.

Nick’s Pizza &Pub succeeded in opening its second restaurant without the usual management problems and financial trauma that so often accompany expansions of that type because the company’s management could absorb the new demands on it.

The management philosophy behind that success is called “trust and track,” which involves more coaching, training and taking responsibility than is typically found in the restaurant industry, which is so dependent on entry-level labor.

Sarillo explains how the trust and track management works in his book, “A Slice of the Pie: How to Build a Big Little Business,” but it wasn’t trust and track that got the business into trouble. It was his general disinterest in the company’s financial statements, especially the balance sheets.

There are probably two reasons why entrepreneurs so often feel this way about their company’s financials. The first is that financial statements deal with the past, and entrepreneurs by their nature are looking in the other direction — the future. The second is that financial statements don’t speak to them the way that they do to bankers, accountants and business consultants. The numbers do not provide any important information to the entrepreneur partly because they are written in an unfamiliar language, and partly because financial reports often come to be viewed as “dream busters” — obstacles to his or her goals.

Sarillo is straightforward about his neglect of his financials, especially of the balance sheet. The recession had hit his business very hard and he had redoubled his efforts to maintain profitability, morale and cash flow in the face of slowing sales. Margins have always been very thin in the pizza restaurant industry and the recession squeezed them even further.

Like most entrepreneurs in situations like that, he concentrated on margins, costs, customers and his team of workers but paid little attention to the firm’s balance sheet. Between borrowing to cover the expansion and drawing down on a credit line to make sure that suppliers were paid promptly, though, the company’s debt levels were way out of proportion to the rest of its financial picture.

Eventually, of course, the pizza company’s finances hit the wall and it couldn’t pay its bills. The short-term cash crunch was bridged by the local community, which responded to an urgent plea from Sarillo to come in, enjoy a pizza and help the business to survive the storm. He was fortunate, also, to have an understanding bank, which was willing to work with him to adjust the short-term cash drain that the firm’s borrowing had created.

It was no fun, but both key elements in the firm’s survival, the community and the bank, responded the way they did largely because of the effort that had been devoted to these relationships over the years. Otherwise, Nick’s Pizza would have been just another business that foundered in the recession — and nobody would wave goodbye.

The Volkswagen story has much less drama. Most happy stories are that way.

Partly because it had positioned itself with automobile models that fit the marketing disparities of the bogged-down U.S. and global economies, the corporation was able to keep its borrowing down. The resulting strength of its balance sheet meant that it was able to offer financing as a sales incentive and gain market share in Europe because its debt-strapped competitors could not do the same thing.

One of the remarkable and beautiful things about balance sheets and income statements is that they are essentially the same format and structure for all businesses, from the one-person shop to the global giant. The numbers are larger for big businesses, of course, but the architecture and the language are the same.

The balance sheet reflects the overall health of your company, and managers should treat it as a trusted friend — complimenting us when we look marvelous and keeping us out of trouble when we’re headed for it. That’s what friends are for.

James McCusker is a Bothell economist, educator and small-business consultant. He can be reached at otisrep@aol.com.