Financial acumen is as crucial as ever in the digital era, as it can quickly reveal which enterprises are, in reality, just technologies in search of a sustainable business model. Likewise, such knowledge can help leaders discern early warning signals (e.g., declining margins, productivity slides, customer churn, and inventory bloat) that a faltering business needs IT modernization. Yet the mere mention of financial statements usually generates scorn about arcane accounting terminology, puzzled looks at endless spreadsheet grids, and eagerness to move on to more “comfortable” topics.

Nonetheless, just as routine medical checkups and fundamental health knowledge are important to wellness, all managers must periodically review and understand their organization’s overall financial well-being. Just as metabolic blood test reports provide health indicators, financial statements reflect business vitality. Importantly, reported data, whether medical or financial, holds no answers, but it begs users to ask the right diagnostic questions — especially if something has gone awry.

The digital era does not change that. Despite the fluid lexicon of business buzzwords, leaders of well-run enterprises understand fiscal responsibility, deliver competitive returns, and communicate with clarity and candor. Detailed below are two timely and timeless insights about financial performance that ensure stewardship, especially in times of rapid technology-driven change.

Companies Live by Earnings But Perish by the Balance Sheet

The business press and financial markets repeat the mantra of “earnings, earnings, and earnings.” What is often overlooked, to great peril, is management’s first and fundamental fiduciary responsibility of stewardship. Established in the era of sea merchants, the first accounting methods reconciled resources entrusted to a crew upon departure against the treasure accumulated by journey’s end. Today, reports of companies’ demise often do not discuss lack of profitability; rather, they point to an inability to meet financial obligations. Successful leaders prioritize stewardship over empire building.

Consider four homes on a residential block, all of similar size and value. The assets appear the same, but a financial “X-ray” of each could reveal very different stories. House #1 was purchased 25 years ago at a much lower price than it would sell for today, and it has just a few years left on its mortgage. The owners of House #2 purchased the home this year, having scraped together a 20% down payment, and have decades of payments ahead. The family in House #3 paid cash and has no concerns about looming mortgage payments. House #4 is occupied by owners with hefty credit card debt who are in immediate jeopardy of foreclosure. By analogy, four corporate competitors may have similar assets and annual income, but very different pressures and flexibility due to obligations.

Countless businesspeople, athletes, and actors have earned fortunes and then filed for bankruptcy. We may have seen their earnings, but never their balance sheets. When examining a balance sheet, in either absolute monetary units (i.e., dollars, euros, etc.) or relative terms (i.e., percentage of total assets), the three most important indicators to identify are (1) growth (2) mix, and (3) the largest item.

Company finances, like our retirement accounts, are usually either expanding or contracting; they rarely stay the same. A cursory examination of balance sheets over time will reveal, in money or percentages, changes in individual account or (sub)total lines. Knowing these changes provides an informed perspective on whether the workforce is being asked to do “more with less” or “more with more.”

Growth can be desirable, but if unstable, it can be dangerous. Mix, the second critical balance indicator, provides appropriate context. Shoppers in grocery stores can often be observed closely studying product ingredients. What constitutes a food product or a company balance sheet reveals much about each’s worthiness. For instance, a primary ingredient in many cereals is sugar while plain oatmeal contains just one ingredient: oats. A cake made for four or 400 has the same relative mix of eggs, butter, sugar, and chocolate, but the needed quantities will be vastly different.

On its “ingredients” list, the balance sheet shows assets, not by size, but in descending order of liquidity: how readily they can be turned into cash (hence, cash and cash equivalents are always first). Once capitalized (i.e., recorded on the balance sheet), an asset remains until it is sold, is exchanged, is depleted, is impaired, becomes obsolete, or is used to settle a liability.

For companies, the balance-sheet mix reveals the degree to which holdings consist of cash, accounts receivable (customer IOUs), inventory, property, intangibles (e.g., patents, or other investments) and how such resources have been financed (via short- or long-term debt or equity infusion from owners). A consistent mix, especially with growth, over time demonstrates stability and disciplined management (or lack thereof).

No examination of the mix on the balance sheet is complete without identification of the largest item(s) reported as assets or financing vehicles. For a retailer, it might be inventory or stores, depending whether they are owned or rented. For a movie studio or pharmaceutical firm, the largest asset can be intangible (film or patent rights, respectively).

The risks and pressures facing organizations and managers vary greatly depending on asset and debt mix. Assets require varied expertise, insurance, technologies, and other attention to manage. The largest financing item might be accounts payable (supplier bills due soon), bank loans, or retiree obligations; each has its own time horizon and implications. For instance, large aerospace companies, such as Boeing or Airbus, often receive customer payments in advance to fund the building of airplanes and spacecraft.

Such attention to the balance sheet is the foundation of a well-run enterprise and the essence of management obligation (as stewards) to first do no harm. Consistent profitability follows an understanding of the company’s balance sheet and disciplined management of key resources.

Know the Company Speed Limit

What is a company’s most important metric? Such a question is as debatable and unanswerable as the singular most important health measure. Complex systems require multiple measures across vital components, and, as such, critical universal measures exist.

One key indicator is company sales growth rate percentage. Sales revenue is, over time, the best quantifiable and verifiable evidence of strategy execution. Revenues quantify customers’ total purchases of a company’s products and/or services and are the essence of basic economics, the prices and quantities not only desired, but transacted.

If company sales revenue increased from US $100 million to $110 million in one year, its annual growth rate was 10%. The sales growth rate is analogous to a roadway speed limit, a benchmarking context by which all other changes can be interpreted. Is a company growing too fast, too soon? It depends. Is it safe to drive a car at 50 miles per hour? Many people impulsively nod yes, but the answer is situational. Such speed would be dangerous in a driveway or parking lot, out of compliance in a school zone, and potentially traffic-clogging on an expressway.

Managers need to know their employer’s sales growth rate in the past, present, and future to enhance decision and analysis credibility. For a company with an actual or anticipated sales growth rate of 10%, taming expense increases to a lesser rate results in profit growth, even while spending more.

The lesson is that cost cutting is different than cost control. Imagine two cars driving a great distance on an expressway, one car (sales) is proceeding at 70 miles per hour. Controlling the acceleration of the other vehicle (cost) to rate less than 70 mph increases the distance between the cars in each mile (in business terms, profit). Both cars are still moving forward, but the rate of change is different, increasing the gap.

Retailers and restaurants can apparently increase total sales by opening locations. However, the growth of investment in storefronts, fixtures, and inventory may exceed the increase in sales, diluting the company’s overall performance and asset utilization. Perhaps online sales and delivery would work better. Similarly, distributors may increase sales in the short term by loosening customer credit requirements. Such sales growth may be problematic and costly if less creditworthy customers result in more rapid accounts receivable growth and eventual collection issues. Clearly, there is great value in knowing and using sales growth rate as a marker for sound business judgment.

In an upcoming Advisor, we'll explore three more insights about financial performance leadership in the digital era.

[For more from the author on this topic, see: “Dollars & Sense: 5 Timely & Timeless Digital Era Financial Insights.”]