Most business finance is not particularly complicated, it's just a matter of knowing the language, and understanding some key basics.
1. Cash really is king
Yes, I know you’ve heard it before, but it’s really true. A loss-making business can continue for a long time if it has enough cash behind it; a profitable one can go bust fast if it hits a liquidity problem. So, make sure you understand how your business generates and spends cash. Prepare a rolling cash flow forecast for six to twelve months ahead, and use it to act well in advance if you foresee problems.
2. You need a budget
Budgeting has a bad name. It’s boring and time-consuming, and often the budget is out of date even before the financial year starts. But, done properly, budgets help coordinate activity in the different parts of the organisation, and allow you to put all the necessary resources (for example materials, people, machinery, cash) into place. A regularly updated budget is an invaluable planning tool.
3. Know what drives value
For some businesses, an increase in sales will lead to a large increase in profit. For others, a focus on cost management strategies would create more value. Other organisations might benefit from a focus on managing elements of working capital such as inventories or debtors. For most organisations the main drivers of value are sales volume, profitability, investment in fixed assets and working capital, and maintaining and improving the competitive advantage. Find out what drives value in your organisation and draw up short- and longer-term plans to manage it.
4. Remember that growth costs money
It’s good to go after profitable growth, but you must remember that business growth eats up cash. One reason for this is the increased investment in working capital. Making more sales involves holding more stocks. Selling on credit means more money tied up in debtors before it translates into cash in the bank. All this can cause a strain on bank balances and needs to be built into your financial plans. Whenever you prepare a profit and cash flow forecast, stress-test it to see what happens if sales fall, but also if sales rise. Then plan how to deal with either.
5. Spreadsheets lie
I love spreadsheets and use them all the time. But most spreadsheets contain errors, and sometimes those errors can bring down a business. Set up a protocol for how spreadsheets are used in your organisation, and make sure it’s followed. Test spreadsheets regularly, as errors can creep in. Never make a decision based on a spreadsheet unless you know that the underlying structure and calculations have been reviewed by someone who knows what they’re doing.
6. And finally ... is it too good to be true?
Any investment proposal; be it a new machine, a new product or an acquisition, should be subject to a proper investment analysis. Obviously, this should include a financial appraisal to ensure that it is properly costed and will be worthwhile. But related to that is a strategic appraisal; do the assumptions make sense?
“All we need is 3% of the market?”
How easy is it to get 3% and what will existing companies in the market do when you enter?
“There’s absolutely no competition.”
There generally is competition, you just haven’t noticed it. Is your new product or service meeting an existing need, and if so, how is that need being met at the moment, and by whom? Think widely; the competition might be in a completely different market, but it probably still exists.
“It’s a brilliant invention.”
I’ve worked with brilliant inventors, and it can be inspiring. But not too many of them became millionaires. Sometimes the invention was truly brilliant, but nobody wanted to buy it; think about who benefits from the invention, who might buy it, and who has the money.