Business is very
simple. To succeed, an entrepreneur simply needs to follow the universal
laws of business. Whether the business is a one-person shop or a
billion-dollar conglomerate, they are governed by the same business
principles. This is the premise of Ram Charan's primer on how companies work
in his book "What the CEO Wants You to Know."
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"What the CEO Wants You to Know" is a blueprint for
entrepreneurs seeking to understand the basics of the business of money
making. Anyone who plans to start a business or is trying to grow one should
get a copy of the book.
Many people spend more than a hundred thousand dollars on an MBA without
learning to pull the pieces of the business puzzle together. This book,
using simple language and real-life illustrations, describes the various
elements that comprise a business and the relationship of these variables.
 The most important thing to remember is that business laws are universal.
While it may appear that running a one-person business is simpler, it
requires the same kind of decision-making a CEO of a billion-dollar company
makes. In fact, according to Charan, the "best CEOs and the man or
woman running the one person shop think the same way."
A solo home-based entrepreneur and a CEO both think of every aspect of
their businesses - product, sales, customers, profit margin, return on
assets. They both know which of the items in their product line are
profitable and which are not. Both understand the value of customers, and
the importance of keeping their products moving off the shelf. Except of
course a home-based entrepreneur may not use the fancy management
terminology preferred by big corporations.
If a person understands that certain business principles are universal,
then that person has what Charan calls "business acumen." Business
acumen is the ability to focus on the basics and make money for the company.
According to Charan, every business conforms to the three basic parts of
moneymaking - cash generation, return on assets (combination of margin and
velocity), and growth. Whether running an online or traditional business, a
business owner must understand these parts individually and the relationship
between them. These three basic parts, plus customers, form the nucleus of
any business.
1. Cash generation is the difference between all the cash that flows in
the business and the cash that flows out. Cash is the lifeblood of any
business, or as Charan describes it, "the company's oxygen
supply."
An astute entrepreneur must always ask the questions: Does the business
generate enough cash? What are the sources of cash generation? How is the
cash being used? Failing to ask these questions often spell the end of the
business. Without cash, a business can be in trouble even if other aspects
of moneymaking - profit margin and asset velocity - looks good.
If the business generates sufficient cash, the entrepreneur is in a
better position to grow the business. An entrepreneur can make better
investing decisions, not to mention be more in control, if it has its own
cash rather than borrowing money from investors.
2. Return on assets
(combination of margin and velocity). An entrepreneur
uses either his own money or someone else's money to invest in the business.
The things invested - be it products, store or web site - are the business
assets.
An entrepreneur possessing acute business acumen will ask the questions:
How much money will be made with these assets? What kind of money is being
returned through their use? In short, a smart entrepreneur must always ask,
"What is the return on assets?" An entrepreneur must follow the
rule: the return on assets has to be greater than the cost of using their
own money and other people's.
Earning a good return on assets has two components - profit margin and
velocity. Return on assets is simply nothing more than profit margin
multiplied by velocity. In simple arithmetic, return on asset is
Return = Margin x Velocity
A grocery owner will earn more if she is able to clear her shelves and
replace the goods everyday. Wal-Mart, for example, has a 360 inventory turns
in toilet tissue. This implies that the entire inventory of toilet tissue is
sold almost everyday. Wal-Mart, therefore, recoups its investment in toilet
tissue everyday, plus some profit.
Even if profit margin is small, a business can thrive if it has a fast
turnover of its inventory. A faster velocity leads to a higher return. The
faster the inventory reaches the customer, the better it is for the
business. According to Charan, the best companies have a return on assets
greater than 10 percent after tax.
3. Growth is vital to every business. It energizes the business and
creates new opportunities. However, growth for growth's sake does not do any
good. According to Charan, the growth of a business "must be
accompanied by improved margin and velocity, and the cash generation must be
able to keep pace."
A smart entrepreneur does not only push for sales. Instead, he or she
must know how and why the business is growing; and whether the growth can be
sustained. Sales may be growing, but if the cash situation is getting worse
the entrepreneur must take the prudent approach and step back. When growing
a business, the businessperson must determine if the company is generating
or consuming cash, and whether profit margin is improving or getting worse.
Another characteristic of a person possessing business acumen is his or
her ability to find opportunities for profitable growth when others can't.
Charan gives the case of Wal-mart and Sears, and the difference in the two
giant's approaches to growth. In mid-70s, Sears considered the retail sector
as a mature business with no room for growth. Hence, Sears diversified into
new markets and opened its financial services division. On the other hand,
Wal-mart continued to open new stores while maintaining a
higher-than-average return on assets. Wal-mart's bold move when others
considered the industry flat paid off: in 2000, Wal-Mart had sales of $165
billion compared to Sears' sales of about $40 billion.
4. Customers. A universal law of business is that no business can thrive
without customers. Hence, a smart entrepreneur instinctively understands his
or her customers. As Charan explains, entrepreneurs with business acumen
have a close connection with their customers and possess strong conviction
that the business cannot thrive without satisfying them.
Entrepreneurs must always know the pulse of their customers. A savvy
entrepreneur knows that the best way to get to know the customer is to make
the special effort to observe and talk directly to people who use their
products and services. Find out what the customers need - directly from
them. Direct contact provides insight that even expensive market research
cannot.
In thinking about customers, Charan advises to keep it simple. A business
owner must clearly know what the customer is buying. It may not be the
physical product or service alone, but intangible qualities such as
reliability, convenience or trustworthiness.
The secret of the great CEOs of our time, such as Jack Welch of General
Electric, is their "intense focus on the fundamentals of
business." The best CEOs have a knack for bringing the most complex
business down to the fundamentals -- the same fundamentals that govern a
small family shoe shop or an online store. Like these CEOs, entrepreneurs
should never lose sight of the basics if they want to succeed.
Business is all about common sense. Alas, it is surprising to find how
often this common sense of business is lacking. This book will help anyone
understand in plain and simple language the basic building blocks of a
business and use them to figure out how a company makes money and operates
as a total business.
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