When I was the CFO of a billion-dollar construction company, we were winning work, growing revenue, and even adding headcount. But our margins were also shrinking in certain parts of our business.
It's super frustrating. Cash flow was unpredictable, and it fell at times we were just flying blind. In fact, our strategy meetings, they totally felt disconnected from financial reality.
We had goals, we had initiatives, but guess what? We had no clear roadmap to cash. So I built a financial model, and that changed everything. In this podcast, I talk a lot about combining strategy and finance together.
And today, although you can't see my model, I'm going to share with you what I did to build a model to give me clarity so I could focus on the most important initiatives and the actions that were going to really drive the bottom line. So let me explain. When it comes to strategy, all right, strategy is all about focus, and it helps us to understand where we're going to compete, how we're going to compete, and ultimately how we're going to win.
And I've talked about in other episodes how you start with defining a strategic problem. And then you come up with initiatives to help you to overcome your strategic problem, right, and to move the business forward. But how do you know if your initiatives are right? And underneath initiatives, you have actions.
Your actions help you to advance your initiatives. So how do you know your actions are right? And as a leader of your business, I've been there before, you have so many competing demands. There are so many distractions.
Things feel like they're on fire all over the business. And then you wake up one day and something new emerges, and you're playing this whack-a-mole game with your company. So how do you know what to focus on? And more importantly, how do you know what to focus your team on? And this is the position I was in when I was a CFO.
So I was like, okay, I got to fix this. So I built a financial model. I know, I'm kind of a nerd.
And you can't see my financial model, but I can tell you it's pretty cool, not to brag. All right, so what I did is I started with revenue, and I went all the way down to free cash flow, because free cash flow is what drives value, and it's what keeps businesses in business. We needed to understand our cash position, both in the short term and in the long term.
So this model helped me to understand our cash position. But more importantly, I took our KPIs that we were measuring, our key performance indicators, and then I took the eight levers of value, and the eight levers are pricing, volume, cost of goods sold, operating expenses, accounts receivable, inventory, or for us, it was our work in progress, is our over or under billings. And then we had accounts payable, and then capital expenditures.
Those are the eight levers of cash flow. And really, the eight levers of value, because cash flow drives value. So I build this model, and I have all these KPIs and these different levers that are all formulated out.
So if you entered something here, then it would change the numbers with revenue, and then it would flow through my model, and I would see at the bottom how much cash would increase or decrease. So it's pretty cool. And here's what I found.
By having this model and understanding what is actually driving cash flow, breaking it down into the unit economics of the business, in other words, it gave us tremendous clarity. And this is what changed our focus. And this is what helped us to drive our strategy.
Now, remember, strategy is not a spreadsheet. That's number one. I want you to understand that.
Don't build out a spreadsheet and say, this is our strategy. Instead, you need to understand the unit economics of your business. So for example, I talk about your lifetime gross profit, LTGP, to customer acquisition cost ratio, your CAC.
So let's just say your LTGP to CAC right now is 2.5. And if you increase that to six, what impact would that have on your cash flow? Well, let me break it down even more simply. Let's say your gross margin today, which is your revenue minus your cost of fulfilling that revenue. Let's just say your gross profit is 28%.
How much would your cash flow increase if you increase that to 33% or 36%? What about your day sales outstanding, which measures how long it takes you to collect your accounts receivable? What if it's 60 days right now? What if you could get that down to 45 days? And these are the types of decisions that were plaguing me as a CFO. Because here I was running multiple companies within this billion dollar enterprise, and I needed to understand what to focus on and help my team to focus on the things that were really going to move the needle and the things that were going to turn around the business. And that's what we did.
The team was incredibly hardworking, very smart. And when we focused on the right things, we said, okay, look, if we change our pricing over here by 1%, it's going to change our cash flow by $350,000. But over here, if we fix our accounts receivable problem, and we take it from 62 days, for example, to 50 days, it's only going to change cash flow by 50,000.
Therefore, we're better off fixing our pricing first. So that's what the model did. It gave me the clarity to understand which levers should I prioritize.
Because if you try to fix everything at once, nothing really gets fixed. You hear me talk about done, D-O-N-E. That's how you spell done, right? So I often tell my team, I'm like, put the E on it because we have all these things that are D-O or D-O-N.
I'm like, put the E on it. And the same thing is true when turning around a business or when driving value in your company. If you know that pricing will have the biggest impact on your bottom line, which typically it does, and there are eight things to do, if you start a few of them and then you get distracted and you go over here and you try to fix cost of goods sold, specifically your labor, and then you move over here to your overhead and you start eliminating waste, then you have a bunch of things that are D-O-N, nothing D-O-N-E, like nothing done.
And therefore you don't maximize value. And there's switching costs. So every time you switch your team's attention, there's a true cost and it slows the business down.
That's why I believe understanding what is the lever, what is the upside, and then prioritizing it based on, okay, the potential financial upside. Number two, the probability of really impacting that lever. And then number three is the ease of execution.
So I do this all the time and I've used this model ever since. And I, like I said, it's super powerful. So when we go into companies, one of the first things we do is we understand what is their margin gap.
And by understanding their margin gap and running their business through this model, we could quickly see, okay, if you do this, if you change this, if you move this or impact that, then you are going to increase your margin by, let's say $3 million and your cashflow by $2.6 million, whatever it is. I'm just making up these numbers. But so many companies, they just stay stuck or they're focusing on things that don't even matter.
Maybe they're redoing their website and it's going to take them two months. But if they just fix their pricing, it would take them one week to change the offer, change the funnel, strengthen the scripts of the sales team, and increase the conversion ratio, right? And that would have a far greater impact than focusing on the website. So that's why this financial model changed everything for me, because it helped me to focus on what truly matters.
And that's where strategy and finance come together and add a tremendous amount of cash to your business, if done right. So if you're listening to this, maybe you're not a financial modeling type of person, but I bring it up because there are tools out there that can help you to make better decisions. So maybe you have your own CFO, maybe you're a CFO, maybe you have a controller.
I'll know where you are in your team, but it's important to have tools to make better decisions. Otherwise you're just guessing and I want you to guess. So if you need to help with any of this, or you want to see what your potential margin gap is in your business, we have a ton of free tools and resources on the Coltivar website.
You can go to coltivar.com and check out what we have prepared for you. And if you ever want to hop on a free call, we're happy to have a strategy conversation about your business. But nonetheless, I just want you to be successful in business.
And this was something that helped me change the trajectory of our construction company and it turned things around and we grew our backlog significantly and we started to fill our schedule with profitable work. And you can do the exact same thing in your business when you integrate strategy and finance together. All right, that's what I have.
Have a great week and until next episode, take care of yourself. Cheers.