Let’s be plain. This article is for business owners looking for advice on how to manage their company’s finances.
Are you tired yet hearing about the importance of leadership, team culture, cooperation, and vision? We are. Every business guru out there had been playing all these so-called “rules of success” like a broken record. Get over it already!
Now, don’t get us wrong, this stuff is important. But we, at Kernel, believe one very simple rule is being neglected:
- Know and understand your numbers or in other words – manage your business’ finances.
So, we are about to fix it with our free financial advice.
This guide is for you who have had an idea and decided to pursue it but now need a little help to manage your finances effectively. But before we get into how, let’s ask the why question first.
Why should I know my financials?
Let’s face it. If you’re reading this, you probably are not an accountant or a financial specialist. And it’s okay, you don’t need to be. But you do need to get a handle on your business’s finances.
Why? Well…let’s ask a different question.
Why should you know anything about your own health?
Probably in order to know whether or not you are healthy enough if you have any deficiencies, infections, maybe even in order to avoid future problems. It’s just the same with the business and finances are the key to interpret, analyze and forecast its health.
Most small business owners associate financial management with either accounting (accounting and finance in business are NOT the same things) or something that banks require you to grant credit or to open an account. This is the kind of thought that can get you in big trouble. In fact, about 80% of failing small businesses report financial mismanagement as the main reason for their problems.
So, don’t let managing the finances of your small business be an afterthought. If your business is to survive past the five-year mark, it must become a fundamental part of your strategy.
How exactly is financial management going to help me?
Well, understanding the basics of small business finance – managing your cash flow, budgeting, or analyzing the numbers with financial ratios – will improve your decision-making and help you identify when it’s the right time to invest in growth and when cost-cutting measures must be put in place.
So, in short, financial success is impossible without financial planning and management.
Alright, now that we have established why this article matters, let’s move to the practical stuff like – managing and analyzing your businesses’ cash flow, ratio analysis, and of course budgeting! Together they make up a small business financial management pack. We’ll take them one by one, starting managing your cash flow.
We have some work to do. Let’s get to it!
Understand your cash flows
Cash flow is the lifeblood of any business. In short, cash flow is just money moving in and out of business. Money coming in is known as positive cash flow or cash inflow; money going out, negative cash flow, or cash outflow.
Obviously, you want to have more cash inflow than outflow, duh.
It completely normal for new small businesses to experience a lot of cash outflow vastly. That’s because, in the beginning, you need to invest a lot in equipment, marketing, inventory, and stuff like that. And this at the time when you most likely have little to no clients.
This being said, small businesses are precisely the ones that run the biggest financial crisis risk if they mismanage their cash flows.
Just another reason you’ll stand to benefit from financial management.
Alright, so how can you do properly manage your cash flow?
Obviously, you can’t manage something you don’t measure. So, here are a few steps you need to follow:
Keep track of all your revenues
You’re in business to make profits. One of the most important documents that allow you to do that is an invoice. Here we just can’t help ourselves but say that Kernel is by far the simplest online invoicing software for small businesses.
It will take you under a minute to create, finalize, and send your invoice to the customer or download it in PDF version. It also has simple analytics integrated into the system to keep track of your revenues and cash inflows. So, it will do the profits management part for you.
Don’t forget about expenses
Tracking expenses may seem daunting at first, but knowing where to start can help you get organized and stay that way. First of all, having a bank account helps a lot because you can just go ahead and ask for a monthly statement detailing all your outgoing transactions.
Secondly, you need to organize these expenses by categories such as advertising, payroll, etc., and by clients. Usually, if you operate with bank transactions, all of this is pretty easy and can be included in monthly statements if you identify the client and the category in the transaction itself. But if you only work on cash, you need a cash register to monitor your sales.
Make cash flow projections
A cash flow projection is a financial statement that tries to show how cash is expected to flow in and out of business over a future period. Usually, this is called budgeting, but more on that later.
You know, a business can be profitable and still run out of cash. A cash flow projection is a tool to help you manage your cash so you can pay your bills on a timely basis and keep the doors of your business open.
Here’s a very brief overview for those of you who don’t care about reading much. In the next section we’ll go into more details about budgeting in general:
- Write down your current and past cash inflows and outflows grouped monthly and look at the trend.
- Then you need to make assumptions about the future months and make hypotheses. For example, if you plan to purchase equipment in the next month, you will have to prepare for a bigger cash expense.
- Combine the past trend and hypotheses together and project your cash inflows and outflows categorically based on each expense and profit category.
Alright, let’s get into more details now, shall we?
Budgeting is a glimpse into the future
They say creating a budget is the first place to start with your small business financial management practice. But we say everything begins with the cash flow because you need to have something to work with if you are going to make a budget.
A business budget is an overview of your business’ finances. It outlines key information on both the current state of your finances (including income and expenses) and your long-term financial goals. It helps you:
- Track all your business expenses
- Plan for the future
- Economize when you need to
- Plan for expansion
- Make a profit
Let’s take a quick look at how to create a financial budget.
Where’s your money coming from and how much?
We start with the profit, again. Without knowing how much money is coming in it’s impossible to even start contemplating about the budget. We talked about organizing your cash inflow invoices in the first section of the article.
If you have more than one source of income, be sure to sum up every source of income flowing into your business–then add them all up to get your total monthly income.
By the way if you have no sales yet, that’s okay too. You probably have some investment. So just write zero in your sales section for now and concentrate on the expenses.
Know your expenses
After handling your profits it’s time to move to expenses. Starting with the fixed costs.
Fixed costs don’t change with an increase or decrease in the number of goods or services produced or sold. Think about fixed salaries, rent, utilities, etc.
Conversely, variable costs are the ones that depend on the production scale. These are things like: materials, transportation, etc.
Variable expenses, by definition, vary month to month. When your profits exceed your expectations, you can spend more on variables that will help your business scale faster. Consider reducing your variable costs if you’re earning below expected levels until you can get your profits up.
Take a look at your variable expenses at the end of each month. Over time, you’ll learn how these expenses fluctuate with your business performance (or for specific months).
Put it all together
It’s time to pull all of your income sources and expenses together in order to assemble a comprehensive financial picture for the current month.
To determine your overall profitability, you will need to compare cash flow coming in to cash flow leaving the business.
The most important thing to note is that, once you know how profitable your business is for the month, you will use that to improve your financial situation moving forward.
As an example, if you realize you’re losing money, you might cut your spending and focus on finding new clients. Alternatively, a higher income might be a good reason to invest back into your business (as with new software or equipment).
You may feel hesitant to put in the work to create your budget. But, believe us, the extra effort is worth the time. An effective business budget will give you the financial insights you need to succeed financially in the future.
And moving to the last part of our small business financial management guide…ratios!
How to analyze your numbers with ratios (and have some calculators to help)
Nobody likes looking at financial statements. Period.
But we know that these ugly things actually contain the information we need to know. So, we’re guessing that the best way to deal with this ugly information overload is by transforming it into easily interpretable ratios. This is extremely important for small business financial management.
Simply stated, financial ratios are tools of financial analysis that can turn your raw numbers of small business financial statements into information to help you manage your business better. They help you read between the ugly lines of the statements.
Sounds cool, doesn’t it? What if we told you that you can take it a step further?
Ratios can help you escape from ugly financial statements, but we at Kernel can also help you escape from making ratio calculations. How?
Well, we have these extremely simple calculators that do all the calculation stuff for you. You just have to input some number and that’s it. Additionally, on the same page, each ratio calculator has in-depth information about the ratio you’re calculating.
So, we won’t bother you with telling you about how amazing ratios and our calculators are. It’s better if you judge it yourself. This is as easy as financial statement analysis gets. Here’s the link.
Enjoy and let’s wrap up.
Kernel is a small business owner’s best friend
While small business financial management can be tricky, it’s not rocket science. Follow the basic principles laid out above and you’ll be well on your way to staying solvent so that you can focus on what you actually care about. And if you need a hand organizing and optimizing your financial documentation flow Kernel is here to help.