Managing finances effectively is critical for small and medium sized businesses (SMB’s). Not managing finances effectively can cause cash constraints, lost opportunities, profit erosion, friction with vendors and suppliers, and more. Having worked with many different businesses across many industries over the years, and seeing the financial management spectrum from excellent to…well…non-existent, below is a condensed list of helpful strategies that small and medium sized businesses owners can use to manage finances effectively.
1. Keep personal and business transactions separate
This helps avoid the challenge of trying to make sense of which transactions were for business or personal use when doing your books a month, months, or even a year later, which runs the risk of missing tax-deductible expenses, and inaccurate financial reporting to help you assess your business performance. Also, you need to consider the cost of having someone differentiate between business and personal expenses for you. It will either take a significant amount of your own time or will cost you more to have an employee or bookkeeper take care of that for you. If you have separate bank accounts and credit cards to keep business and personal transactions separate, that will go a long way.
2. Keep up to date books
Everyone "knows this", but it's often not followed. From my observation, keeping up to date financial records is one of the greatest differentiators between a dialed in business vs. one that is struggling. One of the big reasons for this is that, when you keep your books up to date, you can keep a regular pulse on your financials, which allows you to make informed decisions for your business. I've seen it often where business owners make large purchasing decisions based on their bank balance, without taking into consideration liabilities on the Balance Sheet, such as accounts payable, taxes payable, and debt servicing payments in the upcoming year. Our recommendation to clients is to keep books up to date at least quarterly, if not monthly to maximize their agility.
3. Look at your financials regularly
This is related to (2), but more specifically this allows you to look at month over month variances, which helps you identify any ongoing costs that you can reduce or eliminate, or one-off transactions that may have a big impact on profit or cash flow. I also recommend clients look at their aging Accounts Receivable (AR) balance regularly, as not being on top of AR collections can result in cash flow constraints. There are helpful analytical tools that you can use when looking at your financials regularly. Click here for 5 Financial Metrics To Keep A Regular Pulse On For Your Business, or click here for our webinar on Financial Metrics and Ratios, as some helpful ways to get you started.
4. Ensure invoicing and collection processes are efficient
As alluded to in (3), you want to be on top of your AR collections to avoid cash flow constraints. A very important driver in this is ensuring your invoicing to clients/customers is prompt, and that you can quickly collect from clients. If you invoice a week later, and only accept cheques for payment, you can anticipate your AR balances to be at least 2 weeks; and this typically quickly stretches to 30+ days. Expectations in Days Sales Outstanding (how long it takes to collect on invoices) vary depending on the industry, but being on top of invoicing and collections plays a significant role in minimizing avoidable cash flow constraints. We dive deeper into ratios like Days Sales Outstanding in our webinar here.
5. Negotiate credit terms with your vendors where possible
Many suppliers and vendors offer credit terms, and negotiating these terms can really help you with your cash flow. As much as possible, move away from COD (Cash on Delivery) terms, and look toward Net 14 or 30 day terms with your vendors. Some businesses have optimized their terms such that they are collecting on sales weeks before they have to pay for what it is that they sold, putting them in a solid cash flow position. If you would like additional information on negotiating terms with your suppliers, you can download a free eBook here.
6. Budget
This is further down the list because it requires that you have your books in order and that you look at your financials regularly, but it’s certainly no less important. Putting a budget in place helps you think through how it is you are going to spend your money and helps you track how well that is happening, giving you the opportunity to consider additional spending before it happens. Further, keeping a budget helps you ask the question "why are things different than expected?". Identifying the root cause of any differences helps you leverage the positive differences, and mitigate the negative differences.
7. Forecast your cash flow
Doing a cash flow forecast, at least for the upcoming 3 months, allows you to determine if you have any immediate cash flow constraints that you will need to prepare for. Knowing this will help you have the conversations you may need to have well in advance, which typically works much better than when it's an emergency. For example, vendors tend to be much more open to extending payment terms from an extenuating circumstance if you give them a heads up a month before you need it, rather than when they see you are already late on paying invoices. Further, knowing that you may have cash flow constraints will help in potentially deferring cash outflows for large purchases that could wait, as well as in securing necessary financing where needed. If you would like a helpful resource on managing your cash flow, click here to download a free eBook.
8. Negotiate debt before you need it
It is important to have the necessary financing you may need well in advance of when you need it. This helps avoid panic, but also helps in negotiating better financing terms. When you apply for financing, lenders typically look at your financial position. If they see red flags because you are finding your business in a tougher spot that requires financing, that translates to risk for them, which means you'll likely have higher interest rates, higher security that you will need to put up for the financing, as well as tighter lending covenants. Even if you don't anticipate needing financing, it's helpful to have some in place just in case you need it in the future.
While many business owners are great at creating and delivering their products or services, financial management is a critical function for a healthy business that also requires attention. While the financial management tips that are covered above help to address common issues that we have seen, they certainly do not cover the full range of potential financial management pitfalls. If you would like to know how your business is doing in this area, and what improvements you can implement in order to help your business grow in a profitable and sustainable manner, please reach out and we would be happy to speak with you further.
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The information above is intended to be of a general nature, and is not intended to address the circumstances of any particular individual or entity, and is not able to capture changes that may be enacted that would impact the information above following the date of publication. As such, there is no guarantee that the information above is accurate as of any given date following publication, and so no one should act on or make specific decisions based on the information above without first receiving professional advice that can take into consideration specific circumstances for each person. Should you wish to discuss your specific situation, you can contact us here.