Operating a small business is both rewarding and exciting; it can also be very challenging on many levels. It is important that its finances are closely watched.
What are some of the most common mistakes one should avoid when developing a small business financial plan?
Common mistakes to avoid when creating a financial plan for a small business are underestimating expenses and overstating revenues, failing to make contingency plans, and sticking to the original plan no matter how much things change. Updates should be made in response to prevailing market conditions and real-world results, which is crucial for keeping your business safe. Many startups fail in their first few months because of cash flow issues, sudden expenses, and quickly accumulating debts.
Six of the most common financial mistakes small business owners make, including but not limited to are:
Not Separating Personal and Business Finances
The first mistake many small businesses make is combining personal and professional finances, whereby business funds are used for personal purposes and vice versa. Most entrepreneurs take more than one try at getting it right with their business venture; let this be an understatement about how yours shouldn’t hurt your financial future!
When it comes to accounting, things could get complicated, especially during tax time, which involves so much valuable time and money in organising all your bank statements and receipts alone for filing. Even loan applications would be impossible, as there is no recorded evidence of banking activity.
Opening a separate account and credit card for business expenditures lets you track the development of your business, while financial planning is way easier.
Financing Capital Expenditure Through Cash Flow
Most small business people finance major capital items through cash flow, which means they make their payments over a long period, often the lifetime of the purchase; financing items from working capital should be done only if you will be selling the items within a short period, such as machinery that has a 10-year or longer life expectancy.
A correct cash flow and expenses forecast means you will not be surprised if customers pay late, the supply chain goes wrong, or some unforeseen expenses suddenly come up. Be wary of buying fancy cars on credit; your finances might stretch too thin!
Financial planning also builds relationships with bank managers who will help you when needed. Take this opportunity to finance capital expenses required for the expansion of your company, as well as secure an overdraft just in case an unforeseen challenge knocks on your door.
Not Setting Up An Emergency Fund
Not having set aside savings could mean disaster for your business, as many starved startups are on the line due to lack of or misused capital. Therefore, it is essential to have an emergency fund set aside rather than not starting one!
Immediately start your emergency fund with your first paycheck. This fund will grow as your business grows. When that business is raking it in, it will help you get through the inevitable slower times ahead. You could be onto a winner here: just watch the money coming in as the savings go up, and living on less may well have to become necessary!
Most professionals suggest keeping up to three to six months’ expenses in a liquid savings account. This fund can act as an emergency fund when unexpected expenses arise and help you avoid taking on new debt or additional fees.
Paying too Much Tax
Taxes are a major legal obligation for any business; most businesses end up overpaying because they do not understand the complex tax system or because of structural issues within their company’s setup.
Small business owners never really figured that an accountant would save them money. However, keeping all receipts and documents in order and the company organised throughout operations will make things much easier on all parties involved.
Cutting Costs Instead of Growing Revenue
When business owners are looking for ways to increase profitability, one of the first things that comes to mind is to cut expenses. Although very effective in maximising profitability, this should only be done up to a point before costs start to take away business expenses. These are crucial elements in gathering revenues and must never be squandered; use them wisely!
These are enormous opportunities for increasing your revenue, provided you can manage it within your cash flow constraints. You must know why your business is not raising enough revenue and make adjustments to increase revenue without cutting costs. Considering some of the major revenue drivers in your business, for instance, how many customers have bought from you, and how often? Count the Customers;
Calculate your average sale per customer every time someone buys something from you.
After you know what brings in revenue, take action to maximise these key metrics.
Failure To Plan
Unfortunately, too many small business owners make decisions without having a solid cash flow forecast or working budget updated at least quarterly. Operating your company without an idea of the goals it aspires to accomplish can be very stressful, but planning is an integral component of its growth and success.
Develop a plan budget based on the following and review it regularly:
- Sales: To determine your sales, multiply the number of transactions by their average sale amounts.
- Variable costs: Costs may vary with sales forecasting and depending upon individual transactions.
- Fixed Costs: This is the total of your fixed costs, based on your most recent financial statements and adjusted for anticipated inflation.
Once you have prepared your budget, make a cash-flow forecast to estimate where your cash will come from. Notice when payments go out to customers and suppliers. Also, consider the speed of inventory sales, loan repayments, or additional capital expenses that are not already included in your budget. Accurately tracking cash inflows and cash outflows allows you to better prepare your business financially, including creating a budgeted financial statement for a loan application, if that is your goal.
Read more:
Financial Planning for Small Businesses: Avoiding Common Mistakes