Why a strategic approach is needed to lure superstar executives

When companies seek to strengthen their executive teams by luring premier talent from outside the organization, they need to offer potential recruits a compelling reason to make a change, says Tyler A. Ridgeway, Director, Human Capital Resources at Kreischer Miller.

“It’s still a buyer’s market,” Ridgeway says. “At the same time, A-plus players do not lack for opportunities and thus, can afford to be selective. These are individuals who have good jobs and are part of their company’s inner circle. And yet, they have an inner drive to continue to grow. It motivates them to consider new challenges that might satisfy these lofty ambitions.”

The challenge for companies is to craft a plan that entices these talented leaders to change course and join their team. It can be a delicate process that requires both salesmanship and a willingness to demonstrate vulnerability. Care must also be taken to ensure that any new additions will mesh with the existing team.

Smart Business spoke with Ridgeway about how mid-market companies can position themselves to locate and secure the best talent.

What constitutes superstar talent in business?
These are individuals who can help drive a business forward. A players quickly grasp the fundamentals of how a company functions, building both rapport and a common sense of purpose with the people on their team.

At the same time, they are adept at creating healthy tension with other departments that keeps everyone alert and stretching their capacity to achieve new goals. People who fall into this category want to be engaged in the growth of the business and expect to be part of the inner circle that is part of any important decision that gets made.

Does the recruitment of outside talent ever create insecurity on the management team?
Companies should consider internal candidates for management openings. However, if a succession plan has not been developed, it’s often an indicator that the talent within has been assessed and deemed incapable at the present time of filling these positions. If there are feelings of insecurity, leadership needs to find a way to get past that so the company can present a unified front to potential recruits.

Keep in mind that A players will typically study the company they are interviewing with as intently as that company is assessing them. If everyone is not on the same page and offers differing points of view about where the company is headed, it can quickly derail an interview and push the recruit to look for other opportunities.

What role does vulnerability play in the recruiting process?
The willingness to be vulnerable empowers trusted advisers to speak openly about what a company needs to take the next step. These are people who know the company and understand how it functions. They are familiar with what works and they are also aware of that organization’s flaws. If leaders are open to this level of honesty, it can help fill gaps that may be holding the company back.

As the process moves to the interview phase, vulnerability provides an opportunity to learn how recruits view a company’s flaws and what insight they have on how to solve these problems. Remember, these are people who love a good challenge. Businesses that can present an opportunity for a talented executive to step in and elevate that company’s performance, both operationally and financially, often have an advantage over competitors.

The key is presenting the challenge and then offering an incentive that can be obtained when success is achieved. If an executive is recruited to a $100 million company and is able to take that company to $150 million in revenue, that individual will expect to be compensated for his or her efforts.

When the rewards are shared with the existing members of the team, it’s a great away to alleviate any tension that may have existed about the new hire.

Companies that go after A-plus talent need to treat those individuals as they would their best customers. And they need to present a compelling case to these people as to why they should make a change and join a new business.

Insights Accounting & Consulting is brought to you by Kresicher Miller.

Normalized earnings can be a helpful tool to assess your business

Normalized earnings represent adjustments to a company’s earnings to remove the effects of nonrecurring items, such as one-time gains or losses, unusual items and the impact of seasonal or cyclical sales.

This calculation is often used to provide business owners, prospective buyers and others with a company’s true earnings and its repeatable stream of economic benefits, says Richard Snyder, CPA, Director of Audit & Accounting at Kreischer Miller.

Smart Business spoke with Snyder about the benefits of determining your normalized earnings.

How are normalized earnings calculated?
There are generally different types of adjustments to normalized earnings: Non-recurring gains, losses and discretionary expenses and adjustments for seasonality or cyclical sales cycles.

Non-recurring, one-time items may include expenses such as lawsuits, restructuring charges, discontinued business expenses, one-time repairs, natural disasters, the write-off of a note receivable and other abnormal expenses.

Non-recurring gains may include the sale of real estate or investments, insurance payouts or a settlement from a lawsuit. Discretionary expense adjustments may include, but are not limited to items such as salary or bonus adjustments, or adjustments for related party rents.

Often, owners of closely held businesses may pay themselves a salary which is not reflective of current market rates that would be paid if an outside person were hired to run the business. In situations where a company pays rent to a related party, the rents may not be reflective of the current market, which may require an adjustment to normalize.

Cyclical sales or seasonality are typically adjusted using a moving average over the number of periods in order to present normalized earnings.

What are some important things to know about normalized earnings?
Normalized earnings provide the ability to develop reasonable projections of a company’s future income-generating ability and can play an important role for owners and other stakeholders for a number of reasons. These can include buying or selling a business, the valuation of the business or evaluating a business against its industry peers.

Past performance is generally relied upon in order to develop an expectation for future earnings and cash flow. In the event of a sale or acquisition of a business, earnings from the past three to five years are analyzed.

As part of this review, a number of adjustments may be required in order to better estimate what is reasonably expected to occur in the future. The selling or acquisition of a business relies heavily on adjusted earnings and cash flow figures in the determination of the purchase price.

Consistent, reliable earnings and cash flows are important as this lends credibility to the financial recordkeeping and reporting process, which in turn provides a level comfort to all interested parties.

Valuation of a business takes a similar approach in which the valuator is looking for one-time, non-recurring items to ensure consistent financial reporting in the determination of a business’s value.

What does the process of normalizing earnings allow a company to do?
Normalizing earnings allows businesses the ability to compare themselves against their peers. Comparing operating results and other important metrics can assist a company in determining its strengths and weaknesses against its peers.

This in turn provides companies with an opportunity to improve their business by analyzing those strengths and weaknesses and developing an action plan to address them.

Normalizing earnings is a common practice used for multiple purposes. Reporting financial information adjusted for one-time items or discretionary expenses provides users of that information a more realistic picture of a company’s financial results and a more reliable tool with which to estimate future earnings.

This can lead to a better decision making process for owners and stakeholders, whether it is for a valuation of the business, a buy/sell situation regarding a business or evaluating one’s business against its peers.

Insights Accounting & Consulting is brought to you by Kreischer Miller

The pros and cons of using debt to support your business

A business can finance its operations either through equity or debt.

Equity is cash paid into the business by investors who receive a share of the company, enabling them to receive a percentage of profits and appreciation in value. Conversely, debt is borrowing money from an outside source with the promise to return the principal, in addition to an agreed-upon interest level based on the risk being assumed, says Robert Olszewski, director at Kreischer Miller and leader of its distribution industry group.

“In a privately held company, investors have less ‘liquidity’ because the shares are not traded on the open market and a purchaser may be difficult to find,” Olszewski says. “This is one reason why successful and rapidly growing small businesses are under pressure by stockholders to ‘go public’ and thus create an easy way for investors to cash out.”

Smart Business spoke with Olszewski about how debt is interpreted by investors and what that means for your business.

What are the advantages of debt financing?
By borrowing from a financial institution or another source of funds, you are obligated to make the agreed-upon payments on time and to operate within specific financial covenants; this is the end of your obligation to the lender. A key advantage to debt is that you can run your business in accordance with your plan with limited outside interference.

How do owners maximize their return on investment?
Some leaders struggle with this concept early on, but over time, gain a better understanding of how it works. Simply put, if you have $5 million of equity invested in your business and the company generates $500,000 in profits, your return on equity is 10 percent.

Conversely, if you borrowed $2 million from the bank to invest elsewhere while maintaining $3 million in equity, your return on investment is now 16 percent. Granted there would be interest costs associated with the $2 million in debt. But you would still be ahead of the game at a 10 percent interest rate on the additional borrowing.

How do you know when enough is enough when it comes to debt?
Leverage ratios are often the measure of overall risk; debt-to-equity is the most common (total liabilities divided by shareholders equity). In general, a high debt-to-equity ratio indicates that a company may not be able to generate enough cash to satisfy its debt obligations.

However, low debt-to-equity ratios may also indicate that a company is not taking advantage of the increased profits that financial leverage may bring.

Lenders and investors usually prefer low leverage ratios because the lenders’ interests are better protected in the event of a business decline and the shareholders are more likely to receive at least some of their original investment back in the event of a liquidation. This is a common reason why high leverage ratios may prevent a company from attracting additional capital.

What if traditional debt is not an available option?
This is risky and may indicate that an owner is going too far. There are two common forms of alternative financing; equity based and mezzanine (each coming at an embedded cost).

Equity financing involves selling shares of your company to interested investors. Investors may also provide mezzanine financing which are debt instruments provided at significant interest costs (based on risk) and a provision to convert debt to equity.

Leverage in business is normal. The pros and cons directly correlate to the amounts and types of obligations that you are willing to incur.

Insights Accounting & Consulting is brought to you by Kreischer Miller

Debt is a cheaper way to grow your business, when done the right way

Companies seeking to enter a new market, expand their business or make an acquisition would be wise to consider leverage to achieve their growth goals, says Brian J. Sharkey, director of Audit & Accounting at Kreischer Miller.

“Using leverage is an instant shot in the arm of capital,” Sharkey says. “If you go to a lender who is familiar with your company, you may be able to obtain the necessary capital to help achieve strategic goals and move on them quickly.

“Companies that choose to grow organically need to stockpile profits that would otherwise be given as a return to equity holders. They put it aside to build up capital and then use that internal cash flow to support the growth plan. It’s a slower process and in some ways, you’re sacrificing profit for growth.”

One of the keys to effectively using leverage as part of a growth plan is a strong relationship with your lender.

“Keep your lender abreast of the company’s performance and any significant changes,” Sharkey says. “Being proactive with your lender establishes a comfort level and gives you a little more leeway when something unexpected occurs.”

Smart Business spoke with Sharkey about what to consider when using leverage to grow your business.

What’s the best approach to take with a debt financing plan?
First and foremost, know the anticipated return on your investment. Typically, when a business obtains debt or another type of financing, it’s for a specific purpose. Most companies will have a plan for what they are trying to accomplish, but what many fail to do is quantify the anticipated return on investment that is expected to be created.

If you do the math and find that your investment return is greater than the cost of debt, it’s probably something you want to consider pursuing. If you don’t go through the exercise, you may be leaving a lot up to chance.

It is also critical to stress test your plan. What happens if you don’t meet sales obligations? What if your profits aren’t what you expect? It is important to run various scenarios and use the findings to make informed strategic decisions. It’s important to have a plan, but it’s also useful to have financial information to back it up.

Do you see any common mistakes when businesses take on debt?
Typically, it’s not a good idea to borrow on a long-term basis for short-term needs. Long-term financing should be lined up with long-term goals and initiatives. Financing tools such as a line of credit should be held for working capital needs like the financing of receivables or inventory on a short-term basis.

A good way to look at this is to line up leverage with the assets you’re acquiring so the debt service period matches the time period you expect to receive returns from the asset. Otherwise, if things turn sour, you could be obligated to make debt service payments before receiving the benefits from an acquisition or machinery purchased.

What’s another reason to consider leverage or debt financing?
The cost of debt is much cheaper than the cost of equity. If you can properly balance the leverage and equity, you can increase the overall profits and increase the return on equity.

For example, if you have $10 million of equity in your company and you’re making $1 million a year, that’s a 10 percent return on equity. But what if you went out and got $10 million of capital via debt? Now you have $20 million of capital in your company. You may be able to double your profits to $2 million and may only have to pay $500,000 of interest to the lender.

The end result is with the same $10 million of equity, you have $1.5 million of return coming to the equity holders. You can increase the value of your company as well as increase equity returns just by adding some leverage.

Insights Accounting & Consulting is brought to you by Kreischer Miller

A proactive approach is best when considering your company’s future

It’s not a question of if a business owner will exit his or her business, but more a question of when, says Mark Metzler, a director and Certified Exit Planning Adviser (CEPA) at Kreischer Miller. A recent Exit Planning Institute (EPI) survey indicates 76 percent of business owners plan to transition over the next 10 years, and 48 percent in the next five years.

These projections are driven by the fact that the first baby boomers turned 65 in 2011 and 10,000 more boomers turn 65 every day, with the youngest members of this group now in their early 50s.

This generation owns 63 percent of the private businesses in the United States, and their businesses represent 80 to 90 percent of their personal net worth. Soon, however, they’ll need to consider the next step for their respective businesses.

Smart Business spoke with Metzler about the value of developing an exit strategy for this inevitable outcome.

If an owner isn’t looking to sell, why is an exit strategy important?
Every business will ultimately face the issue of the owner’s exit. It is therefore critical to have an effective transition or liquidity plan in place.

Exit planning is a business strategy for owners to maximize enterprise value while enabling the conversion of ownership into personal freedom and peace of mind. In Peter Christman’s book, “The Master Plan,” he compares a successful exit strategy to a three-legged stool. Each leg is critically important.

The first leg is maximizing the value of the business; the second leg ensures that the business owner is personally and financially prepared; and the third leg ensures that the owner has planned for life after the business.

What are the exit options available to a business owner?
There are two general categories for private ownership transition: An inside transition or an outside exit.

An inside transition comprises the following types:

  An intergenerational transfer is a transfer of business stock to direct heirs, usually children. Approximately 50 percent of business owners want to exercise this option, but in reality, only about 30 percent do so. This option is often an issue of estate planning rather than structuring a transaction. An advantage to this option is business legacy preservation.

  In a management buyout, the owner sells all or part of the business to its management team. Management uses the assets of the business to finance a significant portion of the purchase price, with the owner often providing additional financing. This option provides for management continuity, but it also introduces financing risk to the seller.

  A sale to existing partners is typically less disruptive, but the success of the transition is closely linked to the existence and quality of a buy-sell agreement.

■  A sale to employees may be accomplished through an ESOP, where the company uses borrowed funds to acquire shares from the owner.

Conversely, an outside exit may entail:

  A sale to a third party, where the owner sells the business to a strategic buyer, a financial buyer or private equity group through a negotiated sale, controlled auction or unsolicited offer. This is typically a long process, but may result in the highest price.

  A recapitalization or refinance involves finding new ways to fund the company’s balance sheet. A new lender or equity investor (minority or majority position) is brought in as a partner. This may permit the owner a partial exit, while providing growth capital.

  An initial public offering or the expression “going public” involves the registration and sale of company securities (common or preferred stock or bonds) to the general public — a costly option not practicable for the majority of privately owned businesses.

  In an orderly liquidation, the asset value is greater than the value of the business as a going concern. The business is shut down and its assets are sold.

An effective exit strategy begins long before an actual exit, as maximum value is optimized when an exit is proactive rather than reactive. Early planning provides knowledge that the business owner, not the potential buyer, will drive the exit process to achieve personal goals and objectives.

Insights Accounting & Consulting is brought to you by Kreischer Miller

Why enterprise risk management is key to an effective growth strategy

For many owners the value of their business is the largest asset on their personal balance sheet.  As such, it is critically important to manage risk factors that could reduce opportunities and diminish value.

“Evaluating and addressing risk through an effective enterprise risk management process is fundamental to achieving a company’s goals”, says Stephen Christian, Managing Director of Kreischer Miller.

A growth strategy without addressing attendant risks may result in unexpected consequences which limit the chance of success.

Smart Business spoke with Christian regarding the importance of an enterprise risk management system for growing, privately held companies.

What is enterprise risk management?

Enterprise risk management (ERM) is most often defined as methods and processes used by organizations to manage risks related to the achievement of objectives. Risks come in many forms—geopolitical, financial, customer, supply chain, regulatory, litigation, rising costs and so on. Properly managing these risks will help to achieve desired goals.

What does risk management have to do with growth?

All companies that pursue growth take on risk—increasing headcount, adding equipment, entering into new markets, investing in new technology, dealing with new suppliers – all have attendant risks that should be anticipated, planned for and managed. If you omit risk factors from strategic planning, you will be more vulnerable to interruptions and road blocks to growth.

Isn’t this a public company issue?

Absolutely not. Public companies are often larger and more geographically dispersed, thus dependent on systems and processes to drive success. They generally have significant resources invested in evaluating and planning for risk factors that may impede success. Private companies, although perhaps not as large or sophisticated, operate in a fast-paced, complex and, more often than not, global marketplace.

We live in a new era of growing and diverse threats and obstacles to our businesses. All companies must protect their strategy and growth desires by effectively managing risk.

Who should be responsible?

Assuming you do not have a risk management department headed by a chief risk officer, most often this initiative is led by the COO or CFO.

Such a person is often in the best position to look across the organization and focus on the big picture.

This person in turn communicates with the CEO and/or board of directors. The leader of the initiative will have strategic interactions with key people throughout the organization to discuss potential risk factors and their possible impact on desired strategies.

How do you implement an effective ERM system?

First you need to understand the importance of such a system in achieving your goals and be committed to setting a tone at the top. Then assign leadership responsibility to the right person and clearly set forth the expectations for the initiative. The group or person charged with developing the ERM system will identify risks that could impact the business, assess their likelihood and magnitude and determine appropriate responses.

This process often involves scenario planning—what happens if costs go up, access to inventory from another country is interrupted or employment markets tighten. An often overlooked aspect of a successful ERM system is the need to periodically update your findings.  We live in a constantly changing world and these changes often impact the risk factors that can affect a successful business.

Companies need to be resilient and anticipate obstacles to growth and success. Don’t wait until it is too late to plan and make adjustments. The earlier you anticipate potential problems, the more alternatives you will have to navigate changes necessary to ensure you accomplish your goals. So as you plan your future growth strategies, you will be well served to make ERM an integral part of the plan. ●

Insights Accounting & Consulting is brought to you by Kreischer Miller

Three things you need to know about your lender

Now that the economy is showing some traction and the business environment is continuing to improve, business owners are looking at opportunities to expand their businesses, including hiring additional team members, purchasing new equipment and making acquisitions.

Such plans often require outside capital, and commercial banks can provide an affordable source of funds.

“The more that you know about your lender, the better your chances will be in securing business credit at favorable terms,” says Mark G. Metzler, CPA, CGMA, Director of Audit & Accounting at Kreischer Miller.

Smart Business spoke with Metzler on the three issues you need to know about lenders.

What are the key factors that lenders use in their decisions?

Lenders assess credit risk based upon factors including credit/payment history, income and overall financial situation. These are commonly referred to as the ‘5 C’s’:

1. Character. What kind of borrower will you be for the bank? Character is the general impression you make on the potential lender. It is a subjective opinion as to whether or not you are sufficiently trustworthy to repay the loan. Companies don’t repay loans, people do. Your educational background, experience in business and in your industry, the quality of your references, and the background and experience of your management team will all be considered in making this assessment.

2. Credit history. Qualifying for different types of credit hinges largely on your credit history. Many lenders use credit scores to help them in their lending decisions, and each lender has its own criteria, depending on the level of risk it finds acceptable for a given credit product.

3. Capacity. This is the monthly or annual revenues question. No lender is interested in providing a loan to someone who has no means to repay it. Lenders will consider cash flow available to service debt (EBITDA) and the company’s debt service coverage ratio.

4. Collateral. Lenders may make both secured and unsecured loans. Lenders may require you to pledge assets like real estate or capital equipment as collateral. Alternative lenders might consider your accounts receivable, inventory or monthly credit card receipts as collateral.

5. Capital. Capital is the money you personally have invested in the business and is an indication of how much you have at risk should the business fail. To your lender, capital represents your ‘skin in the game.’ Remember that bankers are highly risk-averse and want to ensure borrowers have some skin in the game. From their perspective, borrower’s capital will make it harder to walk away.

How have regulations impacted banks and their willingness to lend?

Historically, commercial lenders were not burdened by the same degree of regulations as consumer and mortgage lenders. It was not uncommon that a few notes on a napkin, or a handshake over drinks, were all that a lender needed to initiate a commercial loan request.

That changed with the enactment of the Dodd-Frank Act which has had a significant impact on the manner in which banks conduct business. Dodd-Frank increased the compliance stakes in the commercial application process through new data collection requirements.

Consequently, the timeline from initiation of a loan request to settlement has expanded. New regulations make it more advantageous for a borrower who may need to restructure a loan to find another bank rather than to stay with the current lender.

A loan restructured with an extended amortization with a current lender may be considered a troubled loan, whereas with a new lender it may not be.

Are there intangible factors that a business owner should consider?
Similar looking banks may have a different appetite for providing loans to certain industries. One lender may be interested in technology companies, while another may avoid them.

Additionally, depending upon the size of the bank, the bank may be near its lending capacity for a certain industry.

Business owners should speak with their financial advisers who can assist in matching the company with the right lender. It’s all about relationships, and working together to achieve a common goal. ●

Insights Accounting & Consulting is brought to you by Kreischer Miller

How sustainable companies focus on the long term to build success

In light of the sheer volume of short-term challenges businesses face, it can be easy to forget to focus on activities that lead to long-term success.

“Companies generally don’t demonstrate success over decades by accident,” says Christopher Meshginpoosh, Director, at Kreischer Miller.

“When you analyze the traits of those that are successful over the long-term — that is, those with sustainable businesses — many common themes emerge.”

Smart Business spoke with Meshginpoosh about the common traits of sustainable businesses.

What do executives at sustainable businesses do differently than others?

One of the obvious things is that they do a better job of focusing on long-term objectives. This is an area where family businesses often outperform others. Because of their sense of obligation to the family, owners tend to make decisions based on the potential impact on future generations rather than on near-term results.

Are sustainable businesses often more frugal than others?

There are times when all businesses tend to be more frugal, such as during economic downturns. However, one factor that contributes to long-term success is managing costs with the same degree of urgency in both good and bad times. This is another area where family businesses tend to do a much better job. They often avoid committing to unnecessary fixed costs during good times, which reduces the risk of losses during economic contractions.

Another benefit of lower fixed cost levels is that it reduces the need for layoffs during a downturn, which can foster employee loyalty and reduce long-term turnover rates.

How do sustainable companies measure their performance?

They tend to focus on traditional profitability and leverage metrics even when others no longer think they are important. Remember the dot com bubble? There were plenty of companies, investors and analysts that said profitability and cash flow did not matter.

While it’s possible to trade profits for revenue growth while capital and credit markets are open, it can be a recipe for disaster when the economy tightens. Closely-held businesses often thrive in this regard because the higher cost of capital requires that they monitor profitability, cash flow and leverage.

Are there aspects of long-term success where public companies have the upper hand?

Public company boards often do a much better job focusing on management succession plans. Additionally, incentives offered by public companies — like stock options or stock awards — can help them lure top talent. However, private companies also have a variety of financial incentives at their disposal, such as phantom stock programs or deferred compensation programs.

How do sustainable companies keep employees engaged?

They don’t rely solely on economic incentives. Many studies have shown that employee satisfaction is highly correlated with the level of control or autonomy granted to employees. This is where family businesses often struggle, because granting an outsider a seat at the table can be difficult.

However, unless there is an unlimited bench of talented family members, a family-owned business may not be successful in the long-run without granting some form of managerial control to outsiders.

What approach do these businesses take toward mergers and acquisitions?

These companies tend not to bet-the-farm on risky acquisitions, such as those involving large targets or those that require a substantial amount of debt financing. Avoid those two, and your odds of thriving in the long-term will dramatically increase even if a particular acquisition doesn’t turn out as planned.

While there will always be risk in business, adopting some of these techniques can reduce risk and increase the odds that your business will outlast you.

Insights Accounting & Consulting is brought to you by Kreischer Miller


The changing face of state tax nexus may unsettle many businesses

Nexus, the degree of contact between a business and a state that allows a state to impose taxes, has always been a difficult concept to define. Defining nexus has never been a “one size fits all” concept when it comes to state taxation, but with most states allocating more resources to identifying non-filers, the risk of detection has become greater than ever.

“Businesses need to be aware of their activities in multiple states to assess whether they have a filling responsibility in those states,” says Thomas M. Frascella, Director, Tax Strategies, Kreischer Miller.

Smart Business spoke with Frascella about the evolving nexus landscape.

What is important for businesses to know about the latest taxation trends?

In today’s aggressive state taxing environment, it is essential that businesses understand the types of taxes that states impose and the degree of contact with a state that could trigger a responsibility to comply with state rules. Sales tax, for example, historically required that a business have “substantial or physical presence” in a state before it was required to collect and remit sales tax. Today, states are revisiting the traditional notion that physical presence is a necessary element to sales tax nexus by promulgating rules and regulations that adopt a nexus standard based on a business’ affiliation with another business.

Does this have significant implications for business organizations?

The affiliated nexus standard is aimed at remote sellers who may not have any other connection with a state other than through financial relationships with businesses that facilitate sales with its customers. Businesses using these affiliate relationships could find that they have nexus in more than just the states where they have a physical presence. The issue of affiliated nexus has become so heated that the federal government has attempted to regulate the taxation of out-of-state sellers by introducing legislation to essentially protect “main street” businesses from complying with such rules.

What has been the reaction of the states to stimulate the tax flow?

States have also responded to the severe fiscal crisis they have been operating under by rushing to enact taxes that require a lesser presence and seek to establish more of a “bright line” nexus standard. For example, Ohio enacted the Commercial Activity Tax (“CAT”) which adopted a factor presence standard for imposing nexus on out of state businesses. The State of Ohio argued that because the tax was neither a sales tax nor an income tax, physical presence was not necessary to create nexus with the state.

The factor presence nexus standard claims to establish substantial nexus when certain thresholds around property, payroll or sales are met. The Ohio CAT statute requires that an out-of-state business have either $50,000 of payroll in Ohio, $50,000 of property in Ohio, $500,000 of gross receipts in Ohio or at least 25 percent of the business’ total property, payroll or gross receipts in Ohio.

Is factor presence here to stay?

The popularity of the factor presence test is beginning to grow and more states are beginning to see it as a means of expanding the current taxpayer base without resorting to the unpopular measures of raising tax rates or implementing new taxes. Factor presence has even crept into the area of state income taxes. It has begun to replace the historical physical presence test which has been the linchpin of state income tax nexus for decades. California was the first state to adopt factor presence as it related to the Franchise Tax, a tax that is imposed on the net income of a business.

Other states have followed suit, including Colorado, Connecticut and Michigan. It is too early to tell whether the use of factor presence test will survive legal challenges that are sure to be raised. However, businesses that have customers located in states where they do not currently have a physical presence should review their current operations to assess if exposure to other state taxes, such as sales, gross receipts and even income taxes exists under these new nexus standards.

Insights Accounting & Consulting is brought to you by Kreischer Miller

Key factors can make the difference between stagnation and success

Far too often, companies hope for an “aha” moment — viewing innovation as a sort of magical event that occurs out of thin air. However, in reality, innovation is often the result of a long, costly and painstaking process.

Additionally, if a company relegates innovation to its research and development department and wonders why R&D is not having the success hoped for, that company is not alone. This is a common mistake, and it can be made worse if R&D has little direct interaction with customers or prospects.

Smart Business spoke with Christopher Meshginpoosh, Director of Audit & Accounting at Kreischer Miller, on creating a company culture of innovation.

What can a company do if it has committed time and energy, but has not seen results?
When companies stagnate, it is often the result of tunnel vision. Sometimes it can be difficult to approach a common problem from a new perspective. One way to combat this is to engage team members from unrelated functions or lines of business. By doing this, the teams will not be as heavily influenced by current habits and are more likely to achieve breakthroughs.

If a company does not have multiple lines of businesses or functions from which to draw, it should consider bringing in an outsider, and not shy away from one who knows nothing about the industry.
Engaging someone who is unencumbered by longstanding assumptions can lead to game-changing insights.

How can companies engage other employees in the process?
For those who really want to create a culture that fosters innovation, innovation cannot be a part-time job.
Innovation takes time and energy. If employees are always up to their eyeballs with other responsibilities, a company will most likely fail. To be successful, an organization needs to provide time and space for employees to focus on products, services or processes. This may mean allowing key employees to spend as much as 10 to 15 percent of their time trying to come up with the next big idea.

Are there other ways to overcome stagnation?
Many times, innovation simply comes from observing something in a seemingly unrelated field and connecting or associating that observation with the problem a company is trying to solve. As a result, sometimes the best way to solve a problem is simply to leave.

Taking a vacation or getting away not only recharges team members, but also provides them with the chance to see things — products, services, or processes in other industries or geographies that could result in breakthroughs in the industry. Additionally, leaving the confines of the office to get out and observe customers in action can help personnel challenge assumptions and generate new ideas.

What other approaches stifle innovation?
Those companies struggling with a lack of quantity or quality of new ideas, should consider how the organization reacts to failure. If failure typically results in negative outcomes — poor performance evaluations, lower raises, embarrassment or dismissal — culture may be the problem.

To create an environment where employees feel safe sticking their necks out, a company should celebrate the effort and accept the fact that for every 10 ideas that fail, one idea may be the groundbreaking idea that was sought.

Are young people better at innovation?
The press tends to celebrate youthful innovators, so it’s assumed the best innovators are young. However, if that were the case, why is the average age of a Nobel Prize Laureate well over 50?

While industries such as technology tend to have many more young disruptors, the skills necessary for innovation in many other areas come from years of experience and observation. So if a company’s goal is to create breakthroughs, make sure it includes some people with gray — or no — hair.

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