Strategic Finance Focus at Year-End

As Year-End Approaches, Finish Strong and Focus Forward

As another year ends, most CEOs and business leaders are preparing to take stock of what needs to be done to strengthen their business and advance their business goals in the coming year. While “taking stock” can take many forms, the overriding premise is to look deeply and strategically at the results of operations, as well as opportunities they might execute on.

Finish the year strong. Identify opportunities for operational improvement and incorporate strategic adjustments in the planning for the year ahead.

Finishing Strong

Evaluate Year-to-Date Financial Performance and Push Hard to the Finish

How is performance year-to-date? It seems obvious, but actively reviewing actual vs. planned results and understanding the variables at play is imperative to identifying areas of improvement. Are targets being consistently met? If not, what is the gap and what actions can be taken to close it? This review often starts with assessing topline revenue and then examining gross margins, overhead expenses, net income, EBITDA, and free cash flow. The later this exercise starts, the later savings from improvements will be recognized.

A review of revenue will often involve examining sales performance. By nature, most salespeople will do exactly what they are incentivized to do (which is why a well-designed sales compensation plan is so important). If a revenue shortfall is recognized, should incentives be adjusted for the sales team to close deals and book revenue before year end? Or is it the customers that need to be incentivized with year-end offers? Alternatively, if expenses are running over budget, are there line items that can be cut or deferred to pull overall expenses back in line with budget?

Tax Planning is Beneficial and Essential

A wise person once said that failing to plan is planning to fail. This is certainly true in the area of taxation, where there are often opportunities to legally minimize or defer the timing of tax payments and to claim income tax credits. These opportunities have deadlines that must be met, and planning is essential. Sophisticated tax strategies can be developed in conjunction with an entity’s CPA. Below are a few examples every company should consider.

There are generous allowances in the tax code to write off purchases of capital assets. Accelerating purchases prior to year end may make sense. With recent changes to the tax code, used equipment also qualifies for these incentives. For entities filing on a cash basis, taxes can be deferred by pushing revenue into the following year, paying bills early, and paying variable compensation such as commissions and bonuses before year end.

Many entities undertake activities that would qualify for the generous R&D tax credit and don’t even know it. This can include software companies, manufacturers and many who may not even have thought of themselves as a research-oriented business. The range of qualifying activities is broader than most would assume and includes things like working with an outside developer to automate many processes. The credit is available to offset against income tax that would otherwise be payable. For entities that do not have an income tax liability, the credit may also be monetized quarterly by an offset against a portion of the employer payroll taxes. For 2023, qualified small businesses can use the R&D credits against payroll tax liabilities up to $500,000. (See our previous blog about R&D Tax Credit Qualification for Businesses.)

In another example, companies that are generating cash can set up a profit share plan with an attached 401k (including existing plans). Contributions are fully deductible even if made after year end. It is a tax effective way of bonusing employees and provides significantly greater deferral limits for highly compensated employees. Furthermore, the plan can be tailored to include a vesting option which serves to help retention of key employees in a tight labor market.

Evaluating the Balance Sheet

Year-end also marks a good time to review each line of the balance sheet and consider what actions might be required to present a more pristine picture at year end. These actions might include:

• A blitz on collection of past due receivables to reduce cash tied up in past due accounts, reduce bad debt exposure and improve DSO (days sales outstanding – a metric often scrutinized by lenders).
• Identifying slow moving inventory and developing a strategy to get it off the shelf. Year-end sales or special offers to past customers for that product might do the trick. This might inform changes to ordering patterns as well.
• Reviewing the asset register and eliminating assets that have been scrapped.
• Evaluating the carrying value of intangible assets such as goodwill and intellectual property.

Assessing Accounting

For entities preparing GAAP compliant financial statements, adoption of Revenue Recognition Standard (ASC 606) and Lease Accounting Standard (ASC 842) is now mandatory.

Changing how revenue is reported impacts EBITDA and also balance sheet items such as deferred revenue and deferred expenses. These changes could impact loan covenants, targets on which sales and management compensation is based, calculations of earnouts, etc. ASC 842 applies to both lessees and lessors and will have far-reaching impacts on many businesses. These impacts will include major changes to accounting practices and financial reporting, as well as increased scrutiny of contracts, service agreements, and all leases starting now and moving forward. (Read more in our blog about Lease Accounting Updates.)

Now is also a good time to reach out to auditors (if an audit or CPA review is required) to plan the timing of the audit, discuss material changes in the business that might impact financial results and/or disclosures, and to obtain a list of their “PBCs” (schedules to be “prepared by client”).

What About Borrowing?

Most lenders do not lend money unconditionally. There are usually conditions attached to any loan and it pays to ensure full compliance with debt covenants and the ability to meet deadlines for the furnishing of year-end financial reports (e.g., audited or reviewed financial statements). If a problem is detected, a proactive approach to submitting a request for a covenant waiver is more likely to succeed than a belated admission after the fact.

Other Items

IRS Suspends Processing of New ERC Claims Due to Scams

The Employee Retention Credit (ERC) was created under the 2020 CARES Act to help small businesses keep employees on their payrolls during pandemic-related shutdowns. Unfortunately, the refundable credit has become a target of scammers, who aggressively market the program to ineligible taxpayers. To protect businesses from these predatory scams, the IRS has declared a moratorium on processing new ERC claims through at least December 31, 2023.

Many Businesses Must Electronically File Form 8300 Starting January 1, 2024

Taxpayers engaged in a trade or business generally must file IRS/FinCEN Form 8300 anytime they receive $10,000 in cash in a single transaction or related transactions. Currently, taxpayers have the option of filing this form either electronically or on paper. However, the IRS recently announced that most business taxpayers will be required to e-file Form 8300 (Report of Cash Payments Over $10,000) beginning January 1, 2024.

Focusing Forward

A year end project plan for every company includes, among other things, the actions required to close the books, completion of the audit and tax returns, issuance of W-2s and 1099s and filing of payroll and HR related reports with the relevant authorities. It is important to ensure that is happening.

It is critical to engage in strategic planning for the year ahead.

As Yogi Berra once said, ‘It’s tough to make predictions, especially about the future.’ Therefore, it is important that the planning is not done by the CEO and CFO in isolation, but that management is fully engaged. Their perspective will result in a stronger and more accurate product. This operating plan can and should also be used in setting targets for management and the sales team and to finalize and communicate their respective compensation plans. Individuals are more likely to accept a portion of their income being at risk based on the attainment of stretch goals if they had a role in formulating those goals and understand the importance of meeting them.

From these projections, a CFO can determine, with a margin of safety built in, what additional funding (if any) may be required. They can also be used to calculate and benchmark certain KPIs that are applicable to the industry to ensure that they are in line and support funding objectives. If debt is required, the plan will calculate projected covenant ratios. If equity funding is required, the plan should also incorporate the existing cap table and project the impact of the funding round so that can be communicated to the Board and others as needed.

A CFOs priority – always – is to ensure that the business never runs out of cash. Preparing the coming year’s operating plan helps to ensure this! A CHRO is critical to understanding the needs and drivers of the company’s most valuable asset, its employees.

Year end is an opportunity for owners, business leaders, and CEOs to engage with a strategic CFO and seasoned HR professionals to develop a thorough project plan for the coming year and support the execution of a disciplined management process. This is critical to accomplish goals and make their business stronger.

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Have questions on how to close your year out or execute on the strategic planning to develop the plan to make your company stronger in the year ahead? Request a free consultation from a vcfo expert who can help. We’ve partnered with more than 5,000 businesses in our 27 years and would love to put our knowledge and experience to work for you.