So many business owners tell me they don’t understand their accounts…that’s what they have an accountant for. Yet for a business owner not having a handle on their own finances is an opportunity missed. You don’t have to be a qualified accountant to understand the figures that your business generates. You just have to understand that there are financial implications in any business decision you make and then work out what are the key numbers you have to monitor to make your business successful.
There are 3 layers of understanding that you have to achieve, and I will be covering these in 3 articles covering:
- Some basic tips
- What are the key figures in your accounts?
- Digging deeper with good analysis
Basic Tips
When someone sets out in business there are three (or 4 depending on the type of business) that you MUST keep tight control of. They are:
- How much are you owed (Debtors)
- How much you owe (Creditors) and
- How you stand at the bank
In the case of a manufacturing company or someone who buys or sells goods, the fourth key figure is stock where you have cash resources tied up on the shelves.
If you keep those in the right balance then you know both that you are profitable and that you are gradually increasing resources to enable you to grow the business The right balance means that at any one time, you have at least sufficient cash resources to pay off your creditors at any time and sufficient control over your debtors and stock that you can collect at least sufficient cash in the next month to pay next month’s bills. It’s a simplistic view but not a bad starting point to understand how you are doing.
Of course, it’s never that simple so there are some danger signs to watch out for to try and avoid such as:
- Customers abusing their credit limits and failing to collect your debtors.
- Giving more credit to customers than you are getting from suppliers. For example, many businesses involved in construction, particularly those using sub-contractors who need paying weekly are giving their customers 45 or even 60 days credit and wonder why they have cash flow issues.
- Stock staying on the shelf for months. Sometimes better to turn it into cash at a lower margin or even a loss than leaving it on the shelf to protect a margin.
- Running constantly at the edge of your overdraft limit (if you have one). There might well be some good deals out there to invest your cash in stock but ONLY if you can turn it into cash rapidly and so these “deals of a lifetime” are best avoided unless you can afford for them to go wrong.
So, the control of the 3 or 4 key numbers are essential to success with the overriding sentiment that
“ Cash is King”