Month: December 2015

Chapter 20 of On Financial Intelligence is all about the power and importance of ratios in financial analysis rather than totals. For instance, rather than looking at a company’s total earnings, it’s more telling to look at the ratio of earnings per share. Ratios are powerful because:

1. You can compare ratios to themselves over time. A ratio lends itself to self comparison because it’s unaffected by factors like company growth. If the numerator of a ratio grows, so too should the denominator. If the ratio changes over time, then you’re seeing a truly interesting trend in part of the finances becoming skewed.

2. You can compare ratios to what was projected. By setting goals and projections as ratios, it’s easier to make decisions. For instance, if you set a goals of keeping a product’s costs below $1 million, it’s hard to determine if you should make a $20,000 purchase without totaling your current costs and projections. However, if your goal is to keep margin for a product to a certain standard, you can look at the costs for an individual decision more discretely because the ratio (margin) goal can pertain just to a specific feature or decision.

3. You can compare ratios to industry averages. Public companies publish their key ratios quarterly and thus you can compare your ratios to theirs to determine if you’re on track, needing improvement, or have an advantage in the market.

These same arguments for why ratios are powerful in financial analysis also apply when setting KPIs for your product. When choosing a KPI around increased user activity for Facebook, for instance, it may be tempting to set a goals of 10 million posts in a quarter. Instead, if the KPI is to get to an average of 10 posts per user for the quarter, the goal gets the advantages of ratios as described above. You can compare this ratio over time and see if users are generally more active than the same quarter last year. You can use it in decision making by examining whether a feature is likely to make a user more likely to post and tracking posts per user in A/B tests. And you may be able to compare it to other social networks because, although they’re smaller than you and thus have less total posts a quarter, the ratio of posts per user is still comparable from one network to another.

So, when setting up the KPIs for your product, think about using ratios rather than fixed totals. Tracking totals is fun for milestone celebrations (like having the millionth user), but they’re far less actionable when making decisions.

Know your assumptions. That’s the first theme in a book I’ve begun reading: Financial Intelligence. Before diving into how to read and interpret financial statements, Karen and Joe (the authors) want to make it clear that all financial analyses are based on assumptions. Be it the depreciation schedule for a vehicle or what counts as cost of goods sold (COGS), there are judgement calls and assumptions that must be made to create a financial analysis. If you understand these assumptions, either by talking to your finance team or reading the footnotes for a financial statement, you can get the full context for the analysis and have conversations about whether those assumptions are accurate. Don’t just accept numbers. Instead, understand how they were chosen and question.

I believe this lesson can be extended farther to teams beyond finance. For new Product Managers, it’s likely the first time he or she will interact with teams like finance, legal, and security. These teams are often shrouded in mist as the common conception is that they speak their own language while making decisions that affect everyone. However, it’s important for a new Product Manager to understand that these teams are human. They must make assumptions and guesses to get their jobs done, and those assumptions are often wrong as assumptions often are. A new Product Manager should strive to form relationships with these groups to understand these assumptions as well as learn how to best inform them of their products impacts to their decisions. This relationship can be formed through informal 1:1s or lunches, or simply getting on the phone to talk to these teams rather than sending email. And even better is to read an intro book to those teams, like Financial Intelligence, to understand their lingo and the framework for their decisions.

So far Financial Intelligence is quite good, and I expect to have several posts about the parts of the book as I read through it.