Online Reporter
Big Business Ideas
Stephene Chikozho
FINANCE has always been seen as having two distinct functions: recording what has happened (financial accounting) and helping businesses to make decisions about the future (management accounting).
Today, it has a third function: financial strategy. This incorporates judgements about risk, which some companies (especially banks) have realised must play a larger part in financial decision-making.
Understanding risk
Fundamental to an understanding of financial strategy are the concepts of leverage and excess risk.
“Leverage” is a measurement of the extent to which a business is dependent upon borrowings.
The higher the leverage, the greater the level of risk. In good times, directors come under pressure to ensure impressive profit growth.
One easy way to achieve this is to borrow money and invest in the most profitable parts of the business. However, if the economy goes into recession, heavy borrowings can turn into an overwhelming burden.
Leverage becomes toxic
The risk level generated by leverage is worsened when businesses use off-balance-sheet finance; in other words, when they do not report loss-making investments on the company’s balance sheet, thereby appearing to boost profits. This leads to an important question in relation to modern business: Who bears the risk? Traditionally, it was assumed the risk taker was the shareholder. This assumption prevailed because shareholders are the ones who collectively own the business.
However, in Europe and the United States especially, the desire to encourage entrepreneurship has led to generous rules that reduce the extent to which losses are borne by business owners. Since 2008, many business collapses have proved expensive for customers, staff and suppliers, but less so for the business owners, particularly when the failing institution has been a bank. Some financial commentators wonder whether or not the balance has swung too far away from tradition.
Director involvement
When times are tough, directors have to make difficult decisions about investment and dividends.
Usually, the directors will have an agreed policy in place — that perhaps half the after-tax profit will be paid as dividends to shareholders, while the other half will be retained to invest in future growth.
But during recessions, it is wise to keep more cash within the business, so directors may decide that dividends should be cut.
If the business also cuts its investment plans, it can keep more cash in its current account, providing the liquidity to survive difficult trading conditions.
So, who is responsible when things go wrong? This depends on the systems of accountability and governance within each company. Ideally, the directors of the business should be sufficiently involved to know when things start to go wrong and call for discussion of a change in strategy. If the directors are too hands-off, they may feel unable to hold the CEO fully accountable when things do go wrong.
Alert, hands-on directors should also spot when rewards for staff are so out-of-control as to threaten the profits being made for shareholders and for the future financial health of the business. “Profit before perks” should be the mindset.
Success stories
Mrs Tabitha Karanja (Kenya)
As the CEO of Keroche Breweries, Mrs Tabitha Karanja has demonstrated the importance of smart credit management and reinvestment.
Starting as a small brewery, Mrs Karanja strategically managed finances to expand production capacity and diversify product offerings. Her focus on reinvesting profits into the business has enabled her to compete with multinational corporations in Kenya’s beverage industry.
Mr Ashish Thakkar (Uganda)
Founder of the Mara Group, Mr Ashish Thakkar has successfully leveraged financial technology to expand his business interests across Africa. Through investing in sectors such as technology, manufacturing and real estate, Mr Thakkar has diversified his portfolio and minimised risks. His use of digital platforms to streamline operations and financial management has been instrumental in the Mara Group’s growth.
These entrepreneurs illustrate how strategic financial management, diversification and the embrace of technology can empower individuals to make their money work effectively.
By leveraging these strategies, they have not only achieved personal financial success, but also contributed to economic growth and development across the continent.
Stephene Chikozho is the chief executive of Africa Business Inc. He writes in his personal capacity. He can be contacted on WhatsApp: +263772409651 or email: ceo@africabusinessinc.com
