This post was most recently updated on May 6th, 2018
Proper financial management is the backbone of the success of any entity. Many entrepreneurs realize too late that businesses seldom fail because of lack of profit, but usually from poor cash-flow. Proper financial management can help avoid many of the pitfalls that lead to poor cash flow and high business mortality. Finance sages are quite pricey and you might need to do the books yourself while you starting out. Follow these few tips to help you keep a good circulation in your business.
1. Account for Every Single Cent
This one might seem rather obvious, but it’s not. By every cent, we mean every cent, no matter how insignificant it may seem. If your business makes millions, you might be tempted to overlook expenditure on a pen or pad or other similarly small things. But the truth is, you tend to go through a lot of the small consumables in your business, and the bill adds up. If you are not accounting for them, you may miss this effect and overlook acquiring them more economically, affecting your profits negatively, unnecessarily.
And you are in business for the purposes of making a profit. Sure there’s a lot more to it, but profit is very important. That means you want your business to generate revenue in excess of costs. But you could continue investing in the business thinking it’s breaking even, all the while you are in the red, because of the pens you buy, and lose and replace. True the loss might not be much, but you are missing out on an important goal for your business, generating a positive return.
2. Know the Essentials
Not just the essential but the bare essentials. This means knowing the resources below which your business cannot be operated. Think of it as business Jenga, how many resources can you remove from the business without it completely collapsing. This forms the basis of all financial planning and can be built upon in all the other tips discussed here. It is important not to be too strict when determining these essentials otherwise your financials will underperform when called upon.
And this is also a blueprint for a lean start-up, particularly good for those bootstrapping their businesses. It generally eases the task of finding financing as you have less to look for. By reducing your needs, you make sources like savings, angel investors, friends and family and crowdfunding more viable plus smaller amounts are more easily approved by financial institutions. The bonus is, of course, a shorter path to positive returns, which is good for your business.
3. Create a Financial Contingency Plan
In business, it’s always tough to acknowledge that the path to success will get rocky. Failing to plan ahead for tough times will, however, make them even tougher to survive when they eventually come round. You need a fall back for when your financials are in a bad state. Despite your best efforts, a few factors could derail you, including;
- Clients paying later than anticipated
- Sales being lower than forecasted
- Costs exceeding forecasts
- Opportunities arising that you need to take advantage of
There’s much that could go on that list but the moral is; a good financial plan leaves you prepared. A contingency should address mainly three things;
- Should a crisis arise, where a can you get bridging finance, for how much under what terms
- According to what you established under point two, bare minimum, what do you need to finance for the business to recover
- Should you fail to weather the storm, what’s going to be your exit strategy
4. Budget, Forecast and Analyse Variances
You need to keep a clear picture of where you are going in terms of both revenue and costs. Management without a roadmap is awfully tough and financial management is no different. Budgeting for costs goes a long way in managing expenditure. You allocate money to key resources and shop around for the best possible price, or at least you should make sure you do. Revise deviations from your budget strictly to make sure expenditure is minimised to essentials.
Same goes for revenue, forecast what you believe you can make. Take into account all the macro and micro factors. This will motivate you to take advantage of all the opportunities that may come your way in any period. It also keeps you ahead of possible challenges, just in case you need to whip out the contingency plans. At the end of the period, drill into variances in budgets and forecasts. Take note of the factors contributing to them and use them to update your process for better budgets and forecasts in the future.
5. Visualize, Set Benchmarks and Analyse Performance
Ultimately you are in business to make a good return on your investment. Even if you are a non-profit, you need to ensure you stay financially viable to carry out your mandate. So at the canter of good financial management is proper performance appraisal. You need to make sure you are meeting goals, and if not what’s standing in your way. Analyze all the financial data you are getting from your business and create an overall picture.
Visualize the data to make it easier to take in. Paint a picture of the performance, literally. Charting your performance immediately brings out critical issues. Determine a few critical KPIs for the business and keep your reports centered on these. You might be tempted to analyze all the performance areas you can, but this creates a glut and makes your reports less actionable.
It would be tough of course to know if you are hitting the mark if you are only measuring against yourself. So in addition to analyzing your performance against past periods, benchmark yourself against industry peers. This is essential to ensuring your financial management policies are best managing macro factors.
6. Invest in an App/ Software
Depending on your needs it could be as simple as a model on excel, an accounting suite or a full-on Enterprise Resource Planning (ERP) Software. Keep in mind the importance of balancing cost with functionality. A good choice will allow you to easily navigate the other points mentioned here so use them as a checklist when making your choice.
It’s definitely advisable to go for a cloud solution. In addition to acting as an auto back-up of your financial data, they come built in with a lot of handy reports and integrations. A good choice to evaluate is wave apps, a freemium software we discuss in this article.
7. Pay Taxes
Your business might be small now, possibly under the radar, but we are sure growth is an important objective for you as an entrepreneur. Failure to be tax compliant at the start of your business plants the seeds for problems that will derail your business at a later date. Tax compliance is also an important viability measure so if you are failing to pay tax it could mean your business idea is not viable. Rather than evading your taxes, conduct some research on tax avoidance strategies to ease your business’s tax burden.
It’s important not just to pay taxes but to pay them on time. One should always avoid delaying tax payments, particularly VAT as a means to bolster cash holdings to survive tough times. It paints a prettier picture than what’s actually on the ground and could mask the extent of a problem. The notion that the business will grow in terms of revenue and then be in a better position to settle old tax obligations is also mistaken as your tax obligations will just grow with it.
8. Invest Surpluses
Financial management 101 teaches us there is a time value for money. It is the principle interest is based on, the reward for a willingness to delay consumption. The long and the short of it, if you do not need to spend money today, you can earn interest from it by investing what exceeds your immediate needs, be careful however that you do not invest in overly risky schemes and lose the funds. Rather keep your risk appetite low and your expectations on the reward low as well. Secondly, you need to make sure your investment is not difficult to liquidate.
Should you find yourself in a pinch, you do not want to lose money trying to get finance to get out of it; it defies the whole point of investing. A good strategy is to speak to your bank about moving your surpluses into interest-bearing risk-free savings accounts. Be sure to specify withdrawal terms that line up with your contingency plan.
9. Depreciate, Depreciate, Depreciate
Depreciation can seem like a very abstract concept, but it has real financial management value. Depreciating your assets allows you to spread their cost through their useful life. Remember the cost of assets goes into your balance sheets and not the income statement, depreciation, therefore, allows you to allocate that cost evenly across the lifespan of the asset in the income statement.
The result is you match income to the value of assets lost to generate it. The wear and tear of the assets is allocated to the income directly attributable to generating it. The resulting profit calculated is more realistic, reducing overdrawing your business. Plus, because profit takes into account the wear of the asset for each period, depreciating creates a cash reserve that can then be used to replenish the assets as they reach the end of their useful lives. You can get a detailed explanation of depreciation and its value in this article.
Financial management is a corner-stone to proper business management, making it essential to ensure you are doing it right. From the onset, invest in a consultation to ensure you set up the right systems and policies on matters such as reporting, budgeting, variance analysis and so on.
While in the long run you will learn to tackle all matters yourself, just ensure you are off to a right start with a professional. Also periodically revise your policies with them as your business grows particularly in areas where you can’t afford to wrong, such as taxation. Consult with the same firm or individual as much as possible. You will deal with someone who understands the evolution of your business and this greatly boosts the quality of advice you get from them.
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