5 big financial mistakes that business owners make
- Ignoring your credit score
- Paying little attention to gross profit and input costs / Focusing on sales not profits
- Procrastinating a deep understanding of your cash position
- Unclear payment terms and periods
- Fall into the trap of the sunk cost fallacy
- Note that your business’ credit score differs from your personal credit score and in order to seek finances for your business in the future, you need to maintain a good business credit score
- Regarding borrowing – Strive to utilize borrowed funds for growth opportunities rather than for critical liquidity issues as this could increase the cost of funding which could impose an even higher cost on the business.
Example – In the face of an opportunity, such as implementing a business plan that was previously under review or marketing a product that was previously under development, that you believe will generate value for your business, consider taking out a credit facility to fund the idea as you will likely get a favorable cost of debt.
Solution – Monitor your payment history by keeping track of your expenses like transportation costs, packaging costs, etc and obligations to maintain a good business financial position.
-Have flexible debt instruments like a business credit card or line of credit to ensure that funds are readily available when needed and the cost of borrowing is reduced because you essentially only pay for the credit that is used
-It is essential to record not only your sales but also the costs generated to make those sales – the cost of goods sold such as raw material purchases and direct labor costs attributable to the manufacture/delivery of the good/service.
-This is because focusing on revenue in isolation does not provide a full picture especially if costs incurred to earn that revenue are more than the revenue generated
Solution: Religiously track input costs and compare them to corresponding sales generated to minimize situations of realizing too late that a particular project was not profitable
- Knowing the profits that your business makes is not sufficient. You need to understand the cash that is flowing in and out of the business. Try to maintain a positive cash flow i.e. money coming in is more than money going out
-this helps you to plan better for your business as any future decisions would be based on accurate information on the cash position of your business.
-This also helps you to get a good understanding of your spending history i.e. where your money is going
Example – In a product manufacturing business, it is imperative to not only track your gross profit (Sales – Cost of goods sold) and Operating profit (Gross profit – Operating costs) but to also monitor how much cash you are paying to your suppliers, and how quickly you are making these payments.
Solution – rely on both budgeting techniques and financial projections.
-you can use digital products to help with projections and tools like Excel to assist with budgeting
-To complement financial projections, especially when considering new projects, focus on the project payback periods. This provides the amount of time required to get back the money invested therefore giving you an understanding of which projects are worth investing in.
-Knowing when and how a client will pay you for a good/ service is crucial for managing your cash flows and your relationships
Solution: - Build a system that gives you weekly or monthly updates on your next payments due to allow you to keep a detailed summary of your receivables.
-Once you realise that an investment in a project is not bearing the fruits you anticipated, cut your losses and do not continue with the project.
Solution: - Once you get to this realization, weigh all your options and alternatives and reassess your decision given the new facts you have discovered about the project.