You know the feeling. You start up your own business full of entrepreneurial enthusiasm and big ideas, ready to enjoy the freedom of earning your own income your way. Then reality hits, the simple fact that you might not have all the know-how you need to make informed decisions about your finances starts to weigh you down.
The good news is you’re not alone – it’s a situation many small business owners find themselves in. The even better news is you can dodge the financial pitfalls with a little foresight and smart footwork. Here are four things to avoid, if you can.
Not planning ahead
Many small businesses run without a working budget or readily updated cash flow forecast. As a result, decisions are made spur of the moment and based on guesswork, so it’s difficult to tell whether your decisions have made business performance better or worse. Good planning starts with a well-thought out budget, one with the following information, generated on a month-by-month basis:
Sales revenue – as in the income you receive from the products you sell, or the services you provide. You’ll need this information broken down by product or service line, not just a lump sum figure, and calculated by the number of sales multiplied by the average sale value.
Variable costs – the expenses you have that change in proportion to your output of products or services. Variable costs rise as your output increases, fall as it decreases, and should be driven by your sales forecast.
Fixed costs – defined as costs that don’t change with any increase or decrease in the creation of your products or services, unless there are significant changes, which can be taken from your most recent financial statements, and adjusted for any known or expected increases.
Once you have a budget with profit and loss accounted for, the next step is creating a cash flow forecast, which is all about estimating the flow of cash coming in and out of your business, across all areas, over a given period of time.
This is different from a profit and loss budget because it’s all about the cash coming in and going out, and you need to consider a few variables:
- How long your customers take to pay you
- How quickly you turn over inventory
- How fast you pay suppliers
- Any loan repayments due
- Any forecasted capital expenditure that will not appear in the budget’s profit and loss account.
Financing capital expenditure out of cash flow
It’s a good idea to cash flow the lifetime of a purchase. Which means, by example, if you were buying stock to sell in the short term, then finance it out of your day-to-day working capital. But if you were getting something like a large piece of machinery with a ten-year life span, you should look to finance it over ten years, a move that would free up your cash flow.
Another way of protecting cash flow is to be measured with your spending. For example, if you have a good quarter, don’t be tempted to purchase an expensive item (such as a car) with surplus cash, unless you’re confident (and have evidence to support it) that your strong sales will continue.
Cutting costs instead of driving revenue
When considering how to improve profitability, many business owners think one thing – cut costs! But usually there isn’t much to cut before the business as a whole suffers.
Then again, the opportunities to grow revenue are limitless, assuming any business growth is managed within the constraints of your cash flow. Basically, it comes down to understanding the drivers of revenue, which in most businesses are:
- Number of customers
- Number of times those customers buy from you
- The average sale you make each time a customer buys
Once you understand these drivers, you can put in place strategies to increase each of those critical measures.
Improve your financial resources
Just because you’re running a small business, doesn’t mean you can’t access the smart thinking and good ideas the big guys get, usually from banks.
These days there are alternatives, like Propell, a contemporary financial solution provider set up just for small business owners. Propell is cloud-based and nothing like a traditional bank, yet they offer all the good stuff you’re after when it comes to financial solutions.
And unlike a bank, Propell works using an app-based dashboard that turns your smartphone into a small business powerhouse of financial information and assistance, including a readily accessible line of credit available 24/7. So, no more dressing up for stiff and uncomfortable meetings at the bank. Now that’s a change for the better.