Debt: "good" vs "bad"

I was at a seminar recently on managing money and the financial planner on the panel talked about how debt can sometimes be good, and sometimes bad, without providing any context on what the difference may be. Not helpful!

As an adult in a western culture, it's very rare to have no debt. It may be university fees you need to pay back over time, buying a car, the biggest one is usually property. Credit card debt is something that gets a lot of press as well. 

Japanese families never used to have credit cards, hence the level of household spending was a key economic measure that was rigorously tracked and analysed as a sign of economic health. While the use of credit cards has grown in Japan, many shops still don't accept them, hence a trip to the ATM at the airport in Tokyo to get some cash is an essential part of travelling to Japan. 

Many businesses use debt as a way of funding their growth as well. For many SME owners, personal and business debt are interlinked so I've covered both of them here. 

To understand whether debt is either good or bad in any given situation, there are 3 questions you need to ask yourself:

1. Are you investing in something now that will create something far more valuable than the debt over time. 

This is the primary argument for a property mortgage. The assumption is that property prices will rise, hence your property will be worth more than the mortgage. 

More than one property developer has got in trouble with this one. This is because they borrow to build the property, then sell it later. They pay interest in between borrowing & selling. This increases how much they owe. The property market can also turn down during this time, leaving them in a hole. 

University debt is less tangible, the idea is that you will earn more over time than you would have without it. That's why a lot of govt based programs around the world take it out of your salary once you earn a certain amount. Some of the coming changes in technology may challenge this assumption. 

From a business viewpoint, the most effective debt instrument I've seen for service based (rather than asset based) businesses is a loan against your receivables balance (the amount of money customers owe you). Most services based businesses with receivables ledgers take up to 60 days to collect the money, with all salaries and other employee related costs paid monthly when the work is done. I've used that before to free up cash to make investments in the business to grow the revenue. We monitor the cashflow forecast very carefully to make sure the business is generating free cashflow. 

This is where a lot of people trip up on credit card debt - it's spent on consumables which don't have future (economic) value. If you pay it off every month, it's a useful tool. If you pay the minimum, you're a bank's best customer - they make a lot of money in interest from you! This is why most personal finance programs start with paying off your credit card debt. 

2. All debt has to be paid back at some point. Always. Can you afford to pay it back. 

Whatever way it's sliced, debt has to be paid back at some point. The exception to this is those who declare themselves bankrupt - going into debt assuming this is an option will have knock on consequences (stomach ulcers spring to mind........). 

For a business owner, this is particularly relevant. Can your business pay the debt back out of surplus profits. 

Many business owners can't get a loan based on the merits of a business case - often the only option is to mortgage a property (see above). There's several factors within the inner workings of how banks look at risk which drive this which are not going to change anytime soon. 

If this is you, the question you need to ask yourself is whether you have the confidence the investment you're making in your business will generate sufficient surplus cashflow to pay back the debt. If you are, then a mortgage on your property is a cheaper option for you than just about any other funding source.  

Using the example above with a loan against receivables, this business is in growth mode hence surplus profits need to be re-invested. Once they get to the point that their profit % is a healthy number and they can absorb up to 60 days for customers to pay, the facility will run down to zero and it'll get removed. 

3. If your circumstances change, is there enough flexibility to change your debt (slow down repayments, sell an asset & pay it off). 

In asset based businesses, there is a rule during an economic downturn - sell under performing assets (even if it's at a loss) and pay down debt. 

I used this rule personally during the global financial crisis - I sold an investment property and paid down the mortgage. While I had to drop the price, I have never regretted that choice. 

From a business context, lets say you have a business loan for an investment that will increase revenue or profits. Let's say those don't come to pass. Can you restructure (usually this means pulling back) on those investments and pay the loan off. 

If you can get your business into a position where the underlying business is generating profits (even if that does mean pulling back), you are in a much stronger position to negotiate a repayment plan with your lender.


There have been times in history that relations with lenders have got pretty fraught (such as the GFC) and many business owners are very reluctant to go anywhere near a bank, and with good reason. If this is you, your answer is yes to all 3 questions, and you're holding back on investing in your business due to this concern, it may be time to look at a few alternatives. 





What can the 2016 US Election teach us about forecasting?

(This was first published on Linkedin here)

The world changes everyday. Normally the changes are small enough that you don't notice them. Sometimes a change happens that's a little more substantial - one of those happened yesterday in global politics.

It became very apparent the result caught a lot of very intelligent, well educated, experienced "experts" by surprise. Why is that? Why can't the "experts" forecast the outcome? It's a deeply unsettling feeling.

This morning I've seen several articles of people attempting to predict what may happen given the seismic shift. Einstein's definition of insanity is useful here - "doing the same thing over and over and expecting a different result". I'm going to buck the trend here - there are no predictions here on what the election of Donald Trump as US President means for the world.

Clearly the rule book has been thrown out and we are in unchartered territory. So was Christopher Columbus and he did ok. So how can good forecasting help you in an uncertain business environment?

Forecasting is built on the fact there are "cause and effect" patterns. If you can understand those patterns from the past, and more specifically, what were the drivers (the cause) of those patterns, you can model what the future (outcome) may look like. You can also use those models to understand how a small change in one of those causes could change the outcome.

A good example is weather forecasting. How does the weather bureau (and they do get it right more often than you may think) know what the weather's likely to be tomorrow? They look at a bunch of factors including wind direction, humidity, high pressure systems, low pressure systems, and how they interact. In Australia, most weather patterns move from the west coast to the east coast which also helps give the east coast some warning as well.

Once you get more than 2 to 3 days out, the reliability level drops substantially. Why is that? It only takes a very small change in one of the drivers (cause) to substantially change the outcome (effect).

Another set of forecasts are those done by Australian Treasury for revenue projections so that long term spend planning can be done by the govt. Those forecasts have not had a good track record in accuracy for quite some time now.

Anyone who's ever done any modelling understands the frustration of seeing a news journalist use the fact that events didn't transpire the way they were forecast as a way of ripping into someone & suggest they're dishonest. It's one of the many reasons I'd never go into politics, that's not my idea of a good time.

It's also been used as a way of trying to discredit climate scientists - the global warming models are inherently uncertain due to the number of causes and the variability in how they interact with each other. The communication methods that make sense to the scientific community do not translate well into the mainstream news cycle.

So why forecast? If it doesn't give you certainty on what's going to happen, why bother?

Forecasting in business is a very effective tool to do three things:

a. Direction - which way should I go?

b. Focus - where should my investment dollars go to grow my business?

c. When do I need to change course - what are those drivers which, if they change, mean you need to respond and change direction quickly.

Think of the rudder on a large cruiseliner. It manages to keep a very large vessel on course with substantial pressures coming from the ocean to push it off course. On board is a navigator to plot the course, to watch ahead and figure out when to change course. Something may change very rapidly and they need to respond and change directions quickly.

Direction - which way should I go?

Do I stick with my current customer segment, or expand into another area. Do I add additional product or service offerings, and if so, into what markets.

What would my revenue and margin (revenue less cost of delivery) look like under each of these scenarios.

As and when we don't meet the forecast, why not? Is it due to number of new customers, product mix, retention of customers, pricing? These comparisons allow you to figure out where you need to tweak as you go.

This works well in a "business as usual" market. When that's not the case, focus and adaptation become even more important.


You have limited time & money. Where you do you spend it? You can only do so many initiatives at once that will grow your business.

Focus is about picking those areas which will have the biggest impact.

We went through this for the budgeting process for one of my clients earlier this year. We picked three main areas of investment, one to substantially grow the business and two to "future proof" the business.

For various reasons revenue was not hitting the forecast we'd done. We re-did the projections and protected two of the three investments, due to their importance to the long term health and vitality of the business. We could do this quickly as we were focused on our priorities, and also understood what the drivers were.

Adaptation - when do I need to change course?

What is it that can change in your business model that would substantially change the outcome?

Is it the length of time customers stay with you? Is it the amount they spend? Is it the cost of a key component going up? Is it the loss of a key staff member.

Often these are the things which can take you by surprise as they're based on an assumption which held true for a period of time but is no longer the case or was always fundamentally flawed. What's happened over the last week is testament to a flawed set of assumptions used by the "experts" on how people behave and how this translates into voting patterns.

What is it within your business that, if it changed, would turn your business model upside down?

Can you scan the horizon ahead (like the navigator) and, if it happens, change direction fast enough?

Are you making assumptions in your business model and assuming they're facts? For IBM it was that "no one was ever fired for buying an IBM". With cloud computing, that's not a buying decision that's coming up a lot anymore so is no longer a valid assumption in developing marketing messaging. IBM has adapted into cloud computing, cyber security and other areas. Their revenue is dropping, can they adapt quickly enough? Can they turn the ship in time?

Forecasting allows you to see the road ahead and change course when you need to. As the driver, only you can make the decisions to change when needed, good forecasting is part of your toolkit so you're not doing it blind.

Dealing with sales tax as a US online retailer

(This blog was first published by OneSaas here)

If you are an e-commerce merchant in the USA, then it’s likely you need to deal with US sales taxes. This is a highly complex area due to the number of jurisdictions involved, all of which have different rules.

45 of the 50 states charge sales tax, up until recently this was on products only. Some states have started adding in services as the size of the service sector grows, again this differs by state.

(This is different from something other countries have called a Value Added Tax (VAT) or Goods & Services Tax (GST) which is charged on both products & services, is normally a flat rate, it’s not variable by product, and it’s charged regardless of whether you’re selling to a wholesaler or to an end user.)

As a business owner, collecting tax on behalf of the government (any government) is a fact of business life. As an e-commerce merchant, you want to automate as much as possible within your sales systems. However, given the complexity of the rules, how do you make sure you’re not paying too much?

To start with, these four questions are the main ones you need to be able to answer, in this order.

A. What state are you in
B. What states do you sell to other than your home state
C. Do you sell a product or a service (or a mixture of both)
D. Are you selling to a wholesaler or end user

We’ll use an example here, where you’re a seller of designer flip flops in California, in an area with a sales tax rate of 7.5%. 

A. What state are you in? 

In California, the sales tax rate is 7.5% (including 1.25% for mandatory local taxes). If you’re in Union City (part of Alameda County) this goes up to 10% with the local tax rate.

By way of comparison, Oregon is one of the 5 states, for example, with no sales tax. Alaska has no state sales tax however allows local counties to levy sales tax.

So any products sold and shipped from a business based in California will attract a 7.5% rate.

B. What states do you sell to other than your home state

To protect small businesses from the complexity of multi-state taxation, the federal government provides limitations on how states can tax the sale of goods across state lines. The Supreme Court has established that states cannot require out-of-state sellers to collect taxes from their customers unless they have a nexus within that state.

Literally translated as a “connection,” a nexus means that your business meets one or more of the following criteria:

  • Your business has a physical location in that state
  • Some of your employees reside and work in that state
  • Your business has property (this includes intangible property, like trademarks, copyrights and patents) in that state
  • Your employees regularly seek or perform business in that state (for example, if you have an active salesperson in that state) 

This means that most online sellers can ship goods out of state without having to charge or collect sales tax. Keep in mind, however, that if you have some sort of physical presence in a state, you may be responsible for collecting sales tax from customers from there.


In our example, you have an office in California but not anywhere else. However, let’s say Macy’s decided they wanted to stock your product and you need to hire an account manager in Ohio to manage that relationship.

On this question, the answer is probably yes you do need to include sales tax for Ohio. However, this would be overridden by the 4th question, in that Macy’s would be a wholesaler in this case.

A better example would be if you decided to open a physical store in New York. At that point you’d need to consider sales tax for New York State (& local).

C. Do you sell a product or service (or mixture of both)

For our example, you sell designer flip-flops. That’s pretty clearly a product.

However, there are many examples where the lines are blurred. For an equipment installation, if the customer is buying the equipment and the installation is part of the purchase, the service in some cases is subject to sales tax. However, if you need to get your air conditioner repaired, and that means replacing a couple of small components, then the product is incidental to the service being purchased and hence it’s the service that’s assessed.

This is a good one to get advice on. These categories are never clear cut, a good accountant who knows your industry will be able to give you industry guidance here which is always your best bet.

D. Are you selling to a wholesaler or end user

Let’s say you get a contract where your flip-flops will become part of a set “outfit” (they’ve been noticed by a celebrity in Hollywood). If the company you’ve contracted with will then onsell your product as part of a total outfit, then in that case you wouldn’t charge sales tax, as they will do so in full once they sell the full outfit to the end purchaser.

As you can see, this is a highly complex issue. What’s the best thing to do?

  • Make sure you know the answer to these 4 questions and get advice from your accountant if you need to pay sales tax, and how much.
  • Setup your inventory items in your shopping cart system with enough detail so the automatic calculations can work effectively, based on both the product code, the bill-to address of your customer & your customer type (wholesale vs end user). If your accountant can’t help you with the right systems choices, it might be time to find a new accountant…….
  • Your shopping cart may round up on every order, which will protect you on audits however may mean you’re paying too much, especially if you have a large number of smaller sales. OneSaas will take your sales from your shopping cart and fix this in your accounting system so you’re not paying too much due to “rounding up”.


How much is your time worth?

As a business owner, there is a never ending list of demands on your time. For any given task, you have 3 choices:

-          You do it yourself

-          You outsource or delegate it

-          It’s either deferred or doesn’t get done at all

There is a lot of advice out there on prioritising your time. This blog looks at how much it costs you to do something yourself vs finding an alternative, or just not doing it.

In a services based business, there’s how much you sell your time for and there’s the cost of your time to your business.

The difference between your revenue and your costs (being total cost value of your time spent + other costs) is your profit.

So what’s the cost value of your time. There’s 2 pieces of information you need:

A.      How much you would earn as a salary if you were an employee providing that service to clients on behalf of your employer? If you would work part time or shift work, how much would you normally earn in a 12 month period.

B.      How many hours a week on average would you spend at work (for some it’s 20 hours part time, for some it’s a 40 hour week and for others it’d be closer to 60 hours per week as an employee.)

The formula to calculate the cost :

A – Total Annual Salary * 1.17 (incl super & other costs) = Total Annual Employee Cost

Total Annual Employee Cost / 46 weeks = Total weekly cost

(52 weeks – 4 weeks holiday – 2 weeks public holiday = 46 weeks)

Total weekly cost / B – number of hours = cost value / hour

This is the cost price to your business of the time you spend delivering your service.

Your sell rate needs to be comparable to what other people in the market are paying for that service, normally it will be at least 2.5 times the cost value / hour due to the time you spend on marketing & networking activities plus business admin, plus the profit margin you make for running your own business vs being an employee. If the ratio is smaller, you may need to look at your chargeout rates. 

So what do you do with those activities you want to either outsource or delegate.

Let’s say your cost rate is $60 / hour and your sell rate is $150 / hour.

If an activity will cost less than your cost rate ($60 / hour), then that frees up an hour for you where you have an opportunity to bill your time out at $150 / hour. So why wouldn’t you?

Most business owners don’t measure the value of their own time in the Profit & Loss statement so often this is very hidden. Due to cashflow constraints, they very often don’t pay themselves this amount either (let alone put anything into superannuation), again which tends to hide the true profit position of your service offering.

So what should you outsource?

The first example is bookkeeping & admin. How many hours do you spend a month on that? Times that by your cost rate and compare this to how much a good bookkeeping service will charge you. Their cost rate / hour may be comparable to yours, however they often will be far more efficient.

On a personal front, I do my own bookkeeping as it takes me approx. 3 hours / month. 3 * my cost rate works out to be the starting price per month for most bookkeepers, given I know what I’d doing in that area I don’t get the efficiency benefit.

The next one is managing your social media platforms and content. How many hours a week do you spend doing that, times that by your cost rate and compare that to a Virtual Assistant who often perform these tasks.

At the other end of the spectrum, what are those things you shouldn’t outsource or are cause for concern if they’re not happening?

An example is developing your service packages. Getting someone to do that for you is expensive and given it’s the core of your offering, they will be far less effective that you.  

Another is business development with new & existing clients – service offerings are based on trust, it’s not something you can outsource to someone else effectively.

Your time is precious & also valuable. Use it well. 

Tricking my brain into taking a holiday

Having recently come back from a two week holiday, one of the things that took a lot of very conscious effort was "tricking" my brain into taking a break. 

I was born to two very intellectually gifted parents, which is a great blessing. It's also a gift that keeps on giving, whether I like it or not.........learning how to manage it has been a large part of my story. 

In our high tech world we're constantly told to disconnect, to "digital detox", to give ourselves some downtime. There's a reason for that - while my brain isn't a muscle, it needs recovery time just like any other part of my body after a period of intense activity and our 24/7 cycle gets in the way of that. 

The other complication as a freelancer is it's really hard to disconnect for the purely practical reasons it's just you. There's no support crew you can rely on in the same way you can as an employee. 

The final spanner in the works is my line of work involves capital raising for startups. It is a process which does not lend itself to good project management and milestone planning. The deal takes as long as it takes and if the deal doesn't happen, the company dies. I lose control of my calendar, a lot. It also makes planning a full disconnecting vacation virtually impossible, except at Christmas. 

Hence this time around I took a different approach:

  • I set expectations months ago I had booked this trip in and if a capital raising deal was still in the works at the time, I would be contactable and online. Sure enough, one of my clients was working through the final stages of a transaction while I was away. The technology now allows me to be contactable from anywhere, I accepted that was part of being able to book a trip in the first place. 
  • I went to see my friends in California. What, you say? I headed to Silicon Valley (I work in the tech sector) on holidays, in the middle of one of the most toxic political campaigns any of us can remember? Yes, I am weird. Quoting Robin Williams: "You're only given a little spark of madness, you musn't lose it". 

My friends happen to live there, I went to visit. They were people I'd not seen in a long time & it was an incredibly simple trip to plan (book plane ticket, all planning done!). 

  • I setup the technology to serve me, rather than pin me down. On the way over, I turned off all the mobile data feeds for everything I didn't need, turned off all notifications and got really good at finding wi-fi. I'd check in once a day to make sure the world wasn't melting while I wasn't looking. 
  • I didn't turn the TV on for two weeks and pretty much ignored the newspapers (this was more related to the political environment rather than work).  The fact most Californians had reached the point they didn't want to talk about it either did help. 

All of this helped me get some really good downtime, to the extent that was possible. 

There was only one problem.

For two weeks, I didn't have a constant barrage of problems to solve. I don't know if it's habit or an addiction, however my brain would start inventing problems to solve. 

I would be half asleep and all of a sudden all of these non existent problems would appear in my head that needed a solution. It was really bizarre.

One of my management techniques has been to develop my "observing mind" that's referred to extensively in Eastern philosophies. I could watch myself creating this twisted mess of non existent problems that needed a solution. 

I eventually came to the conclusion my brain was bored and needed the stimulation. The rest of me wasn't and I got some amazing R&R in, hence now feel refreshed, which is what I was looking for. 

I didn't find the magic bullet that would trick my brain into taking a holiday (that only seems to happen over Christmas). Maybe I will one day. For now the fact the rest of me got a holiday seems to have done the trick. 



Why Accurate Tracking of Revenue, Refunds, Gift Cards and Taxes in Accounting Matters?

(This article was first published on the OneSaas blog)

Your revenue is by far the most important number in your business.

What about profit, you say? That’s also important – the best way to improve your profit sustainably, in the long term, is to understand your revenue. What’s it made up of? What drives it? Why does it go up and down?

Up until the mid 80’s, supermarkets rang up your sale in their cash registers. The only way they knew what they’d sold was when they did their re-orders and their stocktakes. Scanning each item and collecting the number of units of any given product sold revolutionised their supply chains and their profit models, simply by accurately measuring the number of units of each item they sold, at what price.

Fast forward to the current day, with the advent of e-commerce as the principle method to sell and supply products to consumers for many business owners.

Does that mean you have a revenue code in your financial system for every product? No it doesn’t. Your profit & loss statement would become unwieldy and impossible to read. The product level reporting in your shopping cart should do that for you.

Why can’t you just use your shopping cart reports? If they match exactly, yes you can. However often there are differences such as refunds, chargebacks on credit cards and other one off items that make them different. Your revenue is reflective of the cash you have received from customers, thus is the only “real” number in your business, otherwise you may have leakage in your business processes you’re not aware of which are costing you money.

The best practice is to setup summary revenue codes in your accounting system and then apply the relevant summary code to each product in your inventory system. How do you figure out what summary codes to use?

By way of example, let’s look at a specialist supplier of artisan flip-flops. You may have a range of children’s, women’s and men’s flip-flops in your product range. In your shopping cart, each item will have product code. Let’s say you have 20 different products, 8 for children, 8 for women and 4 for men. They also come in a variety of sizes.

While the cost of making each product may be similar, how you market to each group will differ. There also could be differences in shipping related to volume, where some are bought in bulk and others (such as children’s shoes, which they grow out of) are purchased one at a time.

In this case, you’d have the following account codes in your accounting system (codes starting with 1 are revenue, codes starting with 3 are tax related): 

  • 123 Women’s shoes
  • 134 Men’s shoes
  • 156 Children’s Shoes
  • 180 Gift cards
  • 350 Sales Tax / GST / VAT


For the 3 primary revenue codes, this will allow you to do the following analysis: 

  • Look at revenue month to month by category to see what’s growing and what’s shrinking

  • Divide the total revenue by category by the number of flip-flops shipped to track average revenue / product

  • Divide the total revenue by number of shipments of that product to track average revenue / customer

Tracking these metrics each month allows you to respond to changes in your market and to adapt your marketing strategies accordingly.

Why do gift cards have their own category? That’s because when you sell them, you’re not entirely sure what product they will purchase.

How about refunds? There are two ways to do this, you need to pick one of them depending on what gives you better information:

  • Have a separate code for refunds so your product revenue is purely related to products shipped and you can track your level of refunds separately

  • Allocate refunds against the original revenue category so, over time, you get an accurate picture of the real revenue by category, average pricing etc.

You need both, the trick is to pick the system method that’s most useful to you, most of the time, the analysis to do the other calculation then needs to be done using data downloads and spreadsheets.

The other code that’s essential to get right is the tax code to ensure you correctly measure revenue. That’s not your money, it is funds you’re collecting on behalf of either local, state or federal govts. Getting this split right will mean the revenue numbers on your profit & loss statement are accurate and hence useful in how you grow your business.

How much cash to do I really have?

Your bank balance is not a reflection of your profit, and hence the money you get to keep. If you’re in business, a good understanding of how much cash you really have is a good place to start to make you more aware of how this funky "accounting" business works and how to get the most out of all the work you do to keep you records up to date.

Should I focus on the exit plan for my business or not?

When you go into business, many people will tell you to know your exit strategy. Like just about everything else in business, there's two sides to this, there's a spectrum in between and your job is to figure out where you sit on that spectrum. 

So what insurances do I really need?

One part of my role as CFO is to ensure my clients have enough insurance to protect against those factors over which we have no control, without overspending. Every dollar we spend on insurance is one we can't spend on product development or developing the right sales & marketing channels to grow the business. 

Xero's product does make money - but only just

Xero, the company that has led the charge (at least outside the US) in disrupting business management and accounting services, recently announced their results for the 12 months to 31 March 2016.

From an accounting viewpoint, Xero had a net loss of $82.5m, compared to a net loss of $69.5m the year before. 

This begs the question on how this can equate to a product that makes money. That's some pretty good creative accounting!

The answer to this outlines the fundamental differences between the technology / subscription based business models vs the classic industrial age business models built around the manufacturing process. Xero also does a lot of additional disclosures around their business model which makes this sort of analysis possible. 

Under the accounting rules, Xero did indeed lose $82.5m in the 12 months to 31 March 2016. For that reason, any time I refer to profit this is in line with the accounting rules. When I talk about how much money the product makes I will use the term "yield" instead.

To start with, let's look at the costs in their financial statements:

From an accounting viewpoint, their costs were $341m for the year. Cost of revenue is similar to "cost of goods sold" in manufacturing terms. 

Those costs include the transfer of cash spent on product development to the balance sheet (known as capitalisation). This creates an intangible asset that then needs to be amortised, which is a lot like depreciation on property assets. 

They also include the cost of share options issued, normally to employees. These need to be counted as an expense item however they are not cash related. 

Once we adjust for these two, we have a total spend of $294m for the 12 month period. 

Next, we need to look at their business model metrics (page 19):

The average monthly revenue / customer is $30. Given the total life time value is $2,103, that means a customer on average stays for 70.1 months ($2,103 / $30), or 5 years & 10 months. 

That is a long time to keep a customer, who pays you every month, without fail. This gets to the first point of the underlying value of technology businesses, especially those with recurring revenue models. Xero's product is particularly "sticky" as it's a core part of the tax compliance process for small business, which is something you have to do as a business owner. 

The average churn rate is calculated at 1.4%, being 1 / 70 months. What this means is 1.4% of their customer base churns each month. The lower your churn rate, the longer you keep the customer and the more valuable they become when you look at product "yield".

It is taking them 14.5 months to return their cost of customer acquisition (sales & marketing activities to acquire a customer), hence their cost of acquisition per new customer ("CAC") is $435. More on this later. 

Next, we need to look at the number of customers they have:

Their accounts disclosed total new customers added of 242K. The active customers / month is an estimate based on an average from the beginning to end of the year. 

The cost of customer acquisition is the largest and most underestimate bill in any technology company that has reached scaling & growth stage. In this case, total spend on acquisitions is 242K customers * $435 = $105m. That is 36% of their total spend of $294m, it's a big bill. 

The table below is an estimate of where the $294m was spent.

If you're going to keep customers for an average of 6 years, focusing on retention is essential. However, the cost of retention is very, very hidden in the profit & loss statement. I can't calculate it directly from Xero's results however have inferred it from the following two areas:

- total spend on sales and marketing is $145m. The remainder not related to acquisition is therefore related to retention

- the portion of product development not capitalised will relate in part to research that can't be capitalised under the accounting rules and bug fixes / small features. Product updates are a key retention strategy. 

As you can see, customer acquisition has the biggest price tag on it, followed by product development. 

In technology companies, product development is a sunk cost - you build once and deliver an infinite number of times. It's a bit like a building you rent out, the rental creates a yield on the sunk cost of building the property. 

The difference to property is the fact that in technology, you build once and deliver an infinite number of times. Your reach is only limited by the number of customers you can access via whichever channels you use. 

In my calculations, I have $71m allocated to product development as a sunk cost. This is an estimate, it is not something you can directly pull from their financial statements. 

The last cost category is the cost of "running a business". This is finance, HR, office rent & in Xero's case, the cost of being a publically listed company. 

Based on the average number of active customers of 596,000, we can calculate the annual amount & thus the average amount spent per month on per customer on delivery, retention and running a business. 

This now allows us to put together the "unit economics" that determines the product yield on the sunk cost of developing the product:

The yield is the life time value, less cost of acquisition, less the other monthly costs * 70 months. Over a 70 month period, this customer will yield $514, or 24% of revenue. 

(It's important to remember this is an estimate - I may have overestimated sunk product development costs which would reduce this number.)

Based on this calculation method, Xero does make money. The yield % rate, however, is very thin. In many tech models this would be above 40%. 

Why is this an issue? Because it doesn't take very much to change the yield rate. For example, let's say the cost of delivery doubled. How would this happen? A lot of these costs for Xero are the costs of the feeds from the banks. Let's say they find a way to increase the cost of those:

Is this case, the cost of delivery has doubled which has taken the yield rate down to effectively breakeven, hence no yield on that sunk cost of product development. 

A second example is them having to drop their price to $20 / customer / month in order to protect their customer base from a customer. There is a reason Quickbooks Online announced a very low cost alternative in Australia:

In this case their yield is negative, hence they would be losing money for every new customer they take on. That's not pretty!

Xero's strategy is fairly clear. They are going for the highest acquisition rate they possibly can allow them to protect their monthly subscription price & to give them leverage with the cost of acquiring data from the banks. 

The cashflow potential of this model starts making sense when you look at their cost base for 1.1m users, assuming they acquire 250K users in that 12 months period.

In this scenario, their revenue is also $396m, hence their cashflow breakeven point is approx 1.1m users. 

At 1.5m users they have a surplus of $65m via this calculation method. 

Google has used a similar approach and now have $73B in the bank. 

There's a reason why Xero's market cap is approx $2B, which is comparable to MYOB's market cap when they IPO'd last year, for a company that was substantially more profitable when you look at the accounting measures of profit. 



What does Apple do with it's $205B in the bank?

How much, you say? Apple’s financial statements for the year ending 26 September 2015 show $US205 Billion in cash and short / long term marketable securities (fancy finance speak for money in the bank and held in money market investments).

Apple, like many multinationals, are once again in the news in Australia due to tax. It was a key point of the 2016 Budget. 

Accepting investment from family & friends - a good idea or not?

Accepting other people's money changes relationship dynamics. That is inevitable (and that includes business relationships). If you thought family gatherings were awkward now, imagine what they'd be like if one of your family has invested in your idea and you spend the entire event convincing them why things are awesome (especially if they're not). 

Do I need to worry about voting rights on my Board?

Do I need to worry about voting rights on my Board?

I go to a lot of Board meetings, and I can count on one hand the number of times something was put to a vote. It does happen if it is impossible to reach consensus on an issue, if that’s the case then that means Board members are unaligned on the future direction of the company, and there is no other way to move forward.