Time for a little simple finance. One of the biggest stumbling blocks for new business owners is understanding business finance. This is probably responsible for more business failures than any other single factor. Here are some fundamentals that you need to understand:
- Sales are not income unless you sell for immediate cash. If you sell on credit, you have to collect the money according to your credit terms. Even payment by cheque or credit card can take time to become available in your bank account.
- Income or Revenue is not profit. The costs of producing, marketing and delivering the product or service, the costs of running the business, paying staff and other ancilliary costs have to be taken out first.
- Profit is not yours to take out and spend! Some may be needed to repay loans, some will almost certainly be needed to pay taxes and some should be invested back into the business to help it grow.
- Money in the bank may not be yours to spend either! Goods and services you pay for on credit have to be paid for eventually, as does accrued taxes etc.
- Debtors are people who owe money to you, creditors are people who you owe money to. The two should roughly balance out. The difference will have an impact on how you use the money in the bank.
- Cashflow is the flow of real money into and out of your business bank account. It is not always the same as sales, revenue or costs which can often be purely paper transactions involving some form of credit or delayed/deferred payment.
- Assets are those things that have a tangible value to the business such as property, equipment or cash – as well as money owed to you from customers.
- Liabilities are those things that will ultimately drain money from the business, such as loans, money owed to suppliers, compensation to disatisfied customers, accumulated charges for utilities etc. or potential legal costs of not complying with business and trading laws.
- CASH is KING – especially in difficult times such as recession or other poor trading conditions. Other assets take time to turn into cash and may not materialise in time to deal with any unexpected crisis. Keep some spare cash on deposit for emergencies.
- Growth is good as long as you can finance it. Growing too fast can mean you run out of money at some point and come to a grinding halt, possibly even ending up with business debts that cannot be paid on time. This is known as OVERTRADING and will often be fatal to what appeasr to be a successful business.
An understanding of the above will ensure you run your business in a sensible manner and reduce the risk of failure. Make sure you keep full financial and trading records so that you can keep track of the important financial areas of the business.