What Is The Language Of Business?
The ability to understand and communicate financial information is vital to every entrepreneur. It is said that learning the language of business will empower you to grasp the information you need when it comes to making important decisions. As there are many factors you have to look after when you’re thinking about your business (marketing, human resources, operations etc.), which are the core principles you must follow?
What is business all about?
Leaving aside the definition you can find in every dictionary, in the end, business means decision-making under uncertainty. Predicting the future of a business is a hard thing to do, yet there are many managers and business owners who must constantly make decisions about what their company should do in the future.
The language of business may be difficult, but not impossible to understand and approach. For you to get more confident and to ease the decision-making process, there are 3 elements which you should take into consideration: the language of accounting (historical information), finance (forward-looking information) and economics (external factors).
Most of the times, accounting is associated with the language of business because it processes financial information which can be accessible to your main stakeholders as well.
In business, accounting covers two main branches: the managerial function and the financial function. Managerial accounting compiles reports on your company’s activity for your own use as an owner, while financial accounting is used to process information and prepare it for eventual third parties (investors or shareholders).
For you to keep track of your overall financial position, your company has to produce these three main financial statements:
– Balance sheet
– Income statement
Within each financial statement, you will find a list of terms that are very important to understand. Our advice is to take your time with each and every one of them because based on that information, you will be able, as a manager, to make decisions based on the financial indicators and adjust business processes according to your objectives.
During the time you learn and properly understand the accounting language, you have to grasp the language of finance as well. While accounting is backward-looking, finance is forward-looking, thus very important when you have to go through the decision-making process. Your role is to analyze and interpret the numbers your accountants have prepared for you and create projections based on this data. Even if that information is quite accurate, it doesn’t really indicate where the value is created, so you can also take into consideration:
– Assessing value
– Looking into the future
– Rates of return
– Allocating capital
The third language of business is economics and it refers to the economic environment your business is operating. It gives an eye to the behavioral trends in markets, governmental regulations and other external factors. When you’re making a financial forecast, you’re using financial methods, but they have to be supported by a thorough understanding of supply and demand, consumer preferences, price sensitivity, etc.
As there are many economic principles you have to respect as a manager, you can consider these key concepts:
– Supply and demand (and equilibrium)
– Consumer preferences
– Indifference curves
– Price elasticity
The Power of Example
Let’s say you’re owning a small toy company and you want to launch a new line. Let’s take a look at the applicability of these three important factors when it comes to running your business and how do you combine these business languages.
Based on your historical accounting data, you can estimate the cost of producing that line. The statements can tell you the average cost of production (including labor, rent, overhead etc), but due to the fact that expenses are usually allocated across different categories, you cannot really calculate the true economic cost of the product line.
Because accounting reports don’t offer you enough information, you have to use the financial estimates which have a forward-looking lens. Calculate the true cost of cash flow required to produce the new line, including the changes that can affect the overhead or the production capacity. This figure should include all expenses and capital expenditures to determine the estimated economic cost of producing the line.
For applying the strategy you’ve built, you must have a solid understanding of supply and demand, properly price the new line and forecast that demand, as well as other substitute goods or price elasticity.
If you will take into consideration all these three factors, the accountants’ view of costs, the finance view of cash flow and the economic view of the market, it will be easier for you to get through the decision-making process. And even if it may be hard to make the “right” decision, there is one thing you should keep in mind: don’t let this process overwhelm you or stop you from writing the beautiful story of your company.