3 Recipes to Financial Statement Analysis That Influences Business Results

What Is the secret connection between financial statements analysis and consistently exceeding your hotel performance targets?

Why is it that there are times when you fall short of your targets despite your best efforts?

Is there a recipe to the secret?

I will lay out in this blog post a proven approach that will produce that magic ingredient which will deliver your business results consistently.

You will be able to influence your business results time and again.

Ready?

Let us dive right in.

This blog post will cover:

Reading Financial Statements

One of the critical skill sets required of hotel managers is the ability to read financial statements.

This is the magical recipe to influencing business results.

And exceeding performance targets consistently.

Unfortunately, it is also the skill set which is often found wanting in hotel managers.

This affects their performance and successes a great deal.

Also this is probably their biggest frustration.

This blog post will solve that frustration and elevate the success levels of your decision making.

We will discover the 3 Recipes to Financial Statement Analysis:

3 Recipes to Financial Statements Analysis

If you wish to take successful decisions that influence your business results consistently, you will have to leverage the 3 recipes to financial statements analysis.

Let us see what these recipes are.

1. 5 Step Results Driven Financial Statements Analysis System
2. 3 Killer Key Performance Indicators to Watch
3. Reading an Income Statement or Profit and Loss Statement Correctly

Let me begin by asking a question:

How do you take decisions in your hotel operation?

Do you have a proven process in your business toolkit for taking decisions?

Why is that important you ask?

Financial Statements Analysis Magic to Influencing Business Results

Business Results do not just happen.

They require planning, analysis, implementation and follow up.

Taking decisions that influence business results consistently requires a process to be followed.

That process is like a recipe.

And there is indeed a proven recipe to influencing business results consistently.

And just like any other recipe, it has some critical ingredients.

Ingredients that produce the magic.

The two basic ingredients (principles) that underpin all financial statements analysis (in fact non-financial analysis also for that matter!) are:

• Cause effect and
• Context

Remember first that you do not need to have a financial background to master financial statements analysis.

You will easily do it if you just inject this first basic ingredient - cause effect.

Cause Effect in Financial Statements

Cause Effect is about:

• What is causing something and
• What is being affected by something.

This is central to any financial statements analysis.

You must analyze both cause and effect before you take decisions.

Cause Effect has another ingredient which is important for financial statements analysis.

That ingredient is Triggers.

Triggers in Financial Statements

Triggers often can be the cause behind a particular phenomenon.

Variances should only be analyzed using cause effect.

If not, you will end up with deceptive results.

And often fall short of your performance targets.

Remember, those times when you put in all effort and still did not achieve your targets.

Worse, you may take incorrect decisions based on that.

The simple steps are:

First, understand what is causing a particular number say, a Key Performance Indicator (KPI);

Then, see what KPI is affected in a Hotel Profit and Loss Statement;

If you took these two steps consistently, I can safely tell you that you have won 50% of the financial statements analysis challenge.

Example

For example, say, the RevPAR KPI is showing a decrease in a month (or whatever period you are considering) compared to a previous period or year.

First and foremost, you need to know what is causing it.

Is it occupancy?

Average rate?

Or both?

After answering these questions you will move to the next ingredient.

Context is the other basic ingredient to the recipe.

Everything is relative to everything else in a Profit and Loss Statement.

This means you need to harness context before you can perform effective financial statements analysis

What is context, you ask?

I am getting to it.

For example, a good part of financial statements analysis is about comparisons with previous periods and years.

However, you should be clear what period you are considering.

Current Month operates differently from Year-To-Date.

Even which part of the year, first quarter Vs say, last quarter is important in Year-To-Date figures.

This is context.

Want to learn cause, effect, context and more to Read a Profit and Loss Statement Easily.

CLICK to take the Read a Profit and Loss Statement Easily in 29 minutes course.

Not ready for the full course?

Take the Read a Profit and Loss Statement Easily in 29 minutes Free Trial Course.

And now to the first of the 3 recipes.

Recipe 1: 5 Step Results Driven Financial Statements Analysis System

The 5 Step Results Driven Financial Statements Analysis System leverages some of the most powerful principles of financial statements analysis.

1. Discover RELATIONSHIPS
2. Identify TRIGGERS
3. Determine CAUSE EFFECT
4. Target Cause in Decisions
5. Measure Results of Actions

It begins with a premise often not realized by hotel managers.

That the power in analysis from a Profit and Loss Statement comes from relationships within it.

We are using the Profit and Loss Statement as an example since it is often known as the performance statement.

However, the application of the relationships principle is to all financial statements and indeed to all analysis.

Let us dive straight into the first of the 5 Steps.

Discover Relationships

Powerful analysis is less about looking at individual elements in a financial statement.

It is more about first looking at the forest rather than the trees.

You must cultivate this practice in your business toolkit.

What do I mean by that, you ask?

It is stepping back and taking a big picture overview.

Unfortunately, too many managers get too close to the analysis.

They cannot see the interaction of elements.

Elements like revenue, expense, profit, asset, liabilities and so on.

Profit and Loss Statement being the performance statement carries these relationships.

However, two major defects underline the problem a manager faces when analyzing a profit and loss statement.

• Profit and Loss Statement does not show relationships between revenues and expenses
• Profit and Loss Statement does not show behavior of expenses vis-a-vis revenues

The pain from these huge shortcomings is almost paralyzing.

Example

For example, say you are looking at revenue performance.

If you do not see relationship of revenue with say the asset that produces the revenue, you are missing a huge factor.

A factor which may well explain the result or lack of it.

This is the reason why in the case of hotel rooms revenue, occupancy and average daily rate are important KPIs.

But they do not provide a perspective that say, RevPAR can provide.

RevPAR tells you the relationship between room revenue and rooms available.

Rooms Available is the asset that is producing room revenue.

Apart from this, RevPAR takes into account both occupancy and average daily rate.

So, it is leveraging the relationship of business volume (occupancy) with price (average daily rate).

This is based on a universal principle.

That any changes in average daily rate will impact occupancy and the other way around most times.

So, when revenue performance is looked at, it is critical that all relationships with that revenue element are considered.

Thus, discovering relationships between elements of financial statements is the first step in the 5 Step Analysis System.

You will take a closer look at RevPAR in the second recipe later in this blog post.

Identify Triggers

Having discovered various relationships that exist between elements, the next step is to identify triggers.

What are triggers?

Triggers are elements of financial statements that affect other elements.

These elements are often called Key Performance Indicators or KPIs.

Some KPIs cause other KPIs to change.

You could say that a KPI could be triggering another KPI.

In the example in the first step we looked at RevPAR and its relationship with room revenue.

Now, we can say that RevPAR is the KPI that triggers room revenue.

Further we saw that RevPAR is itself triggered by three other KPIs - occupancy, average daily rate and rooms available.

Triggers bring out one of the most powerful concepts in analysis.

They differentiate between Cause and Effect.

Cause is the reason something is happening.

Effect is the result that is happening.

CLICK to read about profit triggers that are different in city hotels and resort hotels.

Cause Vs Effect in Financial Statements

In our example, occupancy, average daily rate and rooms available separately and together as RevPAR are the Cause.

The Effect in our example is room revenue.

Why is this such a big deal?

Well, it is a big deal because you need to be focusing on cause in your actions and decisions.

Not the Effect.

This is most often something that hotel managers miss.

They take decisions based on what their Profit and Loss Statement is showing as revenue, expenses and profit (effect).

Without going into the cause.

That will end up in a failed decision.

In other words, let us say hotel managers take decisions based on just what the room revenue variance (against say, budget) is showing.

Without drilling down into the cause elements (occupancy, average daily rate, rooms available etc), that action is doomed to fail.

Thus, triggers show you which is cause and which effect in relationships of analysis.

And now on to possibly the most powerful of the 5 Step System.

Determine Cause Effect

In the earlier step, we identified triggers, often KPIs.

We were also introduced to cause and effect.

In this step, you will actually be finding out which is the cause and which effect.

And it applies to any analysis.

For example, let us say room revenue is falling or stalling despite growth in the market.

In this step, the decrease in the room revenue is the Effect.

You must investigate the Cause.

Is it occupancy or average daily rate which are causing decreased room revenue?

Remember, the example says market is showing growth.

That means that something is causing the room revenue to fall against the market behavior.

Price as Cause

Cause could be higher prices.

Customers often have price resistance.

A price deemed higher than the value provided is not acceptable.

If price is the one causing occupancy to drop thereby lowering room revenue, then further cause needs to be searched out.

Is it any particular market segment that is causing the fall?

And so on.

It is critical to understand a couple of things

1. Decisions and Actions cannot be based on Effect
2. Cause needs to be dug out from the hotel operation

RevPAR is a great example of how multiple KPIs could be triggering the effect.

You need to carry out this step in a focused way.

Why is that you ask?

Well, so that you can take the next 4th step successfully, as in results driven.

What is the 4th step you ask?

Let us get right to the 4th step now.

Target Cause in Decisions

In the these first three steps, you have set up the situation for taking action or the decision.

Out of that preparatory work you carried out, you need to separate the cause.

Why you ask?

Because you want to target cause in your decision making.

Targeting cause is critical in results driven decisions.

How can you take a decision to remedy something without understanding cause?

In our example, you cannot take any kind of meaningful action or decision just knowing that your room revenue is decreasing.

You need to figure out if occupancy, average daily rate, rooms available or any other factor are causing the lower room revenue.

And how much?

Financial Statements Analysis Goal

Because the goal of your decision is to remedy the situation.

This may be arresting the fall, or even reversing the trend and causing room revenue to grow.

But all that will depend on what specific cause you have zeroed in on.

Many managers use the effect in their decisions for remedy.

In our example, taking decisions based on just the negative room revenue variance.

Remember, variances are just a symptom.

Variances are mere indicators.

What you should be focusing on is the cause - why room revenue is falling when the market is growing?

You may often be wondering why some of your decisions seemed to produce no or even negative results!

It is a good bet that you may have used effect or symptom to take decisions.

And now on to the 5th and an important step in our 5 Step system.

Measure Results in Action

Peter Drucker, the Father of Management once said: "You cannot improve what you do not measure."

And so it is that we must take this 5th step seriously.

Having taken action and a decision in Step 4 based on groundwork done in the first 3 steps, you are now ready for this step 5.

You will measure the results of your decision taken.

What action did you take to arrest or reverse room revenue decrease?

What were the results?

Did the result arrest the decrease?

What went right?

What did not go right?

How can you take stock and course correct.

Step 5 is an iterative process.

It is a Rinse and Repeat process.

Get a visual look at this important 5 Step Results Driven Financial Statements Analysis System + Keep as a Reference Tool.

DOWNLOAD The Ultimate Financial Statements Analysis 3 Pack Infographic Set

Let us now look at specific hotel KPIs that you can measure.

I call them Killer Hotel KPIs every hotel manager must watch.

Let us look at the first one.

Recipe 2: Killer Key Performance Indicators to Watch

I call them Killer Hotel KPIs every hotel manager must watch.

Let us look at the first one.

Market Share Index

Hotels are unique in that they operate in their own competitive set.

A competitive set represents your direct competitors.

They offer similar products and services.

More critically these are hotels that can take away business from you.

Hotels cannot compare themselves to all the other hotels in the market.

So, they focus on 4 to 5 hotels that can be considered direct competition.

Those 4 to 5 hotels are your hotel's competitive set.

Armed with a competitive set you can now position yourself in that market.

How do you know where you are positioned?

And on what basis?

Great questions!

Enter Market Share or Revenue Share Index.

These are critical hotel metrics for measuring hotel performance.

They literally tell you what share of the market pie you command.

Don't you want to know that?

Why is knowing about the competition so important?

Consider this.

You operate in a particular competitive set.

You will need to take decisions on pricing, quality, presentation, products and services on a regular basis.

These will impact not just your results but also that of the competitive set.

So, knowing where you stand versus your competition is key.

In the next killer Hotel Key Performance Indicator we will see how market share index is arrived at.

On to the next Killer Hotel KPI which we took at a look at in an earlier example.

Revenue Per Available Room

Revenue performance is the first port of call in priorities.

You need to know your revenue generation strategies in other words.

In this process, knowing the price and business volume elements of related key performance indicators is critical.

Price is represented by Average Daily Rate and Business Volume by Occupancy.

How much of your hotel room revenue results are coming from the occupancy of the hotel?

What is your average daily rate?

These are questions which critical for delivering hotel room revenue.

Enter a global Hotel Key Performance Indicator.

RevPAR

Or Revenue Per Available Room.

This hotel KPI literally tells you your efficiency level in producing hotel room revenue.

Efficiency as in utilization of capacity or rooms available.

How much your room revenue is influenced by occupancy and how much by average daily rate.

It is like looking through a microscope of your revenue achievement.

Suddenly, individual factors get magnified.

For an in depth understanding of how RevPAR impacts hotel revenue and profitability, read this blog post on Revenue Per Available Room.

If you want to dive into how to Achieve a Higher Profit from the same revenue using RevPAR, Sign Up for this FREE Course.

And now on to a killer KPI you do not want to miss.

Gross Operating Profit

Revenue is the foundation on which any hotel (or for that matter any business) operation rests.

Understanding revenue behavior from the perspective of actuals, budgets, last year allows you to make comparisons of business results.

They indicate where you stand.

Knowing whether you are growing or not in your revenue over time is critical to sustain the operation itself.

If revenue is the foundation of your hotel operation, then profitability is the very reason for survival.

And earning a good return on investment for your owners*.*

Profitability is what sustains the hotel operation.

It injects vital cash flow to run the business.

It is often said in the hospitality industry that if there is no top line, there is no bottom line too.

Owners are constantly looking for sustainable profit to continue running the hotel operation.

However, how will you know if your operation is running efficiently?

That your profitability is the highest it can be?

You will need a hotel key performance indicator that will tell you that.

So that you can measure yourself and improve.

Enter the powerful Gross Operating Profit Hotel KPI.

Index of Efficiency of Hotel Operation

Also known famously as GOP.

The Gross Operating Profit is literally the Index of Efficiency of Operation of the hotel.

It takes into account all operating revenue and expense elements of the hotel operation.

When operating expenses are deducted from operating revenue, the result is GOP.

it is a global hotel key performance indicator that stands for 2 critical metrics:

• optimum generation of revenue and
• efficient management of expense.

The result is optimum profitability.

In other words, Gross Operating Profit.

Owners are obsessed with this hotel key performance indicator.

They would like to see sustained growth in this KPI.

And now on to the final killer hotel key performance indicator.

It brings together the killer hotel KPIs we have discussed thus far.

It is an owner favorite at all times.

Let us see why and how.

Year on Year Growth

Measurement of revenue and profit during the current month and year-to-date is important.

However, knowing the big picture for the entire year is crucial.

Even more critical is knowing how you compare with the previous year.

Did you achieve growth this year compared to the previous?

Hotel managements are constantly grappling with this question.

More crucially, hotel owners demand that growth be registered year after year.

This is why an accurate forecasting process in place is a game changer.

Monthly forecasts give you a big picture overview of the entire year.

In other words, they provide you a progress report each month.

Growth in revenue, expenses and profit.

A sustainable hotel operation is fueled by growth.

Hotel owners wish to see growth all the time.

Monthly Forecasts thus need  to be measured, actioned upon and  monitored both for revenue and profit.

It is a constant challenge.

Nothing however is more fulfilling that seeing a robust growth registered year over year.

You will bring a smile to your owner's face.

You will want that right?

Focus on these Killer Hotel Key Performance Indicators.

Action Steps You Can Take Right Now!

Go back to your hotel or restaurant Profit and Loss Statement.

Apply Cause Effect Principle to revenue and expenses and KPIs.

Which KPI is causing a fall or rise? Which is the effect?

Find out more about the capacity of your hotel rooms and restaurants.

What kind of information is available on these assets which generate your hotel revenue.

Consider how you are using the Profit and Loss Statement for your financial decision making.

What is your strategy going forward?

Recipe 3: Read a Profit and Loss Statement Easily

Now that you have the two recipes to financial statement analysis that achieves highest p;rofit:

• 5 Step Results Driven Financial Statements Analysis System
• Know which Killer Key Performance Indicators to focus on

You are now ready to apply the third and last recipe.

And that is reading an income statement (or profit and Loss statement).

But before that, WATCH below video.

Know why 90% of hotel managers read an income statement incorrectly.

CLICK to learn how to Read an Income Statement Easily in 29 minutes. [making productive use of your time!]

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Take the Free Trial.

Action Steps You Can Take Right Now!

Go back to your hotel or restaurant Profit and Loss Statement.

Apply Cause Effect Principle to revenue and expenses and KPIs.

Which KPI is causing a fall or rise? Which is the effect?

Find out more about the capacity of your hotel rooms and restaurants.

What kind of information is available on these assets which generate your revenue.

Consider how you are using the Profit and Loss Statement for your financial decision making.

What is your strategy going forward?

Want to Keep the 3 Recipes to Financial Statements Analysis to Influence Business Results in one place as ready reference?

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Your Financial Statements Analysis Takeaways

What would you, as a hotel manager, do differently from your learning?

I would love to hear from you on this blog post.

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