Beyond the balance sheet: what we look for in a business

Why the numbers are only the start

Every assessment begins with the financial statements, and it should. Revenue, margins, cash flow and the balance sheet record what a business has actually done. But they record the past, in summary, and they say little about why the results look the way they do or whether they will hold.

When we look at a business, we read the accounts alongside a set of questions about how it earns its money and what could change that. These are the questions we find most revealing.

Where does the revenue come from?

Two businesses with the same turnover can be very different investments. We want to know how revenue divides between products, services, locations and types of customer, how much of it recurs, and how much depends on a few large customers or a single contract. Revenue spread across many customers who come back regularly is worth more than the same amount earned from one client who could leave.

We also look at what moves revenue up and down. In a venue business, for example, revenue is largely the product of how many hours are sold and the average price of each hour, so we study both.

What does it cost to deliver?

Costs show how much of each dollar of revenue the business keeps, and how that would change if revenue fell. We separate costs that move with activity, such as stock and casual wages, from costs that do not, such as rent, insurance and salaried staff. A business with high fixed costs can be very profitable when it is busy and painful when it is not, so the mix matters as much as the total.

How healthy is the cash?

Profit and cash are not the same thing. We look at how quickly customers pay, how much stock the business has to carry, when suppliers are paid and how much capital spending is needed simply to keep the business in good order. Working capital that grows faster than sales is a warning sign, even in a profitable business.

What has the business promised to others?

Debt, leases, supplier agreements, franchise or licence terms and guarantees all commit a business to future payments. For venue and retail businesses the lease is often the largest of these. We read the term, the options to renew, how the rent is reviewed, the make good obligations and any personal guarantees. A good business on a poor lease can still be a poor investment.

Who runs it, and how?

We spend as much time on the people as on the figures. We want to understand who makes decisions day to day, how information reaches the owners, how staff are recruited and trained, and whether the business depends heavily on one person. Good records are often a sign of good management. Missing or late records tell us something as well.

What does a bad year look like?

Every plan has an upside case. We are more interested in a realistic downside: what happens to cash if revenue falls, a key customer leaves or costs rise faster than prices. If the business and its owners would come through that year intact, the opportunity is worth pursuing further.

Putting it together

None of these questions settles an investment on its own. Together they give a fuller picture than the balance sheet can, and they shape what we take into the later stages: how an investment should be structured, what reporting the board needs and where an owner on site can help most. Each of those stages is described in our approach.