ABC FinanceBusiness KnowledgeFinancial Management for Business Sustainability

The Importance of Financial Management for Business Sustainability

Sound financial management is the cornerstone of any successful business. Almost every business failure is down to one key issue – they run out of money, or at least can’t generate sufficient profit to make continuing viable.

The first step on the road to a profitable business is a robust financial plan that allows you to avoid this fate and grow your business.

Understanding Financial Management

Financial management is the key to a successful business, and without it, you can easily find yourself working hard for very little return.

A great book on financial management is Profit First: Transform Your Business from a Cash-Eating Monster to a Money-Making Machine by Mike Michalowicz.

In the book, he introduces the concept of building a financial plan that prioritises allocating a percentage of any income taken by your business to profit. Only once you’ve done this should you begin to use funds to cover costs.

While there are many methods of financial management for businesses, some more suitable for large businesses, some for smaller, having a sound financial management plan is key.

Understanding The Key Pillars Of Financial Management

If you’re unsure where to start with your financial plan, first look at how your business operates and compare this to larger businesses in your sector.

Consider what percentage of your turnover is spent in certain areas of the business such as staff costs, marketing, office and equipment costs. You can find information on larger rivals in their company accounts and this benchmarking activity gives you a strong starting point to act as a reference when evaluating your own business.

For example, if the largest and most successful business in your industry is making a profit of 5%, then you’re unlikely to become the biggest player in your market while maintaining the 40% margin that you’ve been aiming for, unless you seriously change the game.

Read more – Starting a Business In The UK – A Simple Guide or How To Manage Your Business Finances When Growing Rapidly

The Impact of Financial Management on Business Sustainability

Financial management is about taking things one step beyond just producing a projected turnover and delves into what happens with that money once you generate it.

A business finance position may be larger and more complicated than your personal finances, but they work in a similar way.

If an employed person spends all of their income without saving any of it, if their boiler breaks down, they won’t be able to pay for it without borrowing. If they can’t borrow, they are stuck and if they do, their financial position slightly worsens as they now have to meet the new monthly repayment.

While not all debt is bad, and there is good debt and bad debt, it is clearly suboptimal to borrow money in that situation, paying for the boiler from savings would clearly be better.

Your business works in the same way, if you operate with strong financial management that generates excess cash, you will be able to ride out bumps in the road.

Managing debts

On the topic of good debt vs bad debt, let’s take a deeper look at managing debt.

Borrowing money for the right reasons, such as using equipment financing to purchase new equipment that increases profitability can be fantastic for the growth of your business. That said, always borrow wisely and make sure you’ll get a return on it.

Invoice finance, which can be broken down to invoice factoring and invoice discounting can be great for your business cash flow by speeding up your cash flow cycle and reducing your debt turn.

A simple business loan or business credit card can provide a boost to your working capital, and help to grow the business, but shouldn’t be used to make up for a lack of a financial plan.

For businesses that accept card payments, a merchant cash advance can provide upfront funds with flexible repayments based on your current turnover.

Finally, when buying business premises quickly, a bridging loan may be more suitable than a commercial mortgage, depending on your circumstances.

This article isn’t designed to push these products, but financial education is key for business owners and you should take the time to be aware and understand each of these.

Ensuring Profitability and Growth

Using a method like profit first to map out where your business is, with ‘pots’ of money’ – a fixed percentage of your turnover will ensure profitability. From there, you will be in a position to consider growth.

Growing a business is both financially and operationally expensive, it takes time and money and doesn’t offer an instant return. For that reason, a hire that could increase profit will impact your cash flow before you ever see that return.

Many business owners end up trapped by such a situation, where any growth becomes very risky, but is needed if the business is to ever become sustainable.

Fixing profit in first, or at least focussing on retaining cash is the only sustainable way, frontloading the work to ensure a simpler road to growth later.

Financial Planning and Strategy

As you’re probably already aware, I’m a bit of a systems and processes nerd, so I’ll keep hammering the point home – financial planning and strategy should always work hand in hand. Let’s dive a bit deeper.

Short-term vs. Long-term Financial Planning

While focussing on long term growth can be great on paper, there is always going to be pressing short-term needs. Sometimes they will run contrary to each other, which gives you a bit of a balancing act to manage.

While there is not simple way of making the decision each time, if you’re working to a robust plan, have a business plan with aims for future growth, the decision does become easier to make.

Of course, the aim is to make sure that you don’t run out of cash as that will always be the end of your business. For this reason, you should always prioritise short-term needs, but this doesn’t mean you forget about the long term.

If you’re constantly finding yourself unable to balance these competing needs then your entire business model needs to be reviewed. There must be a fundamental issue that has been missed in your planning phase.

For example, if you save £50 per month personally for emergencies, but then face car repairs, new tyres, brakes etc that cost £100, then it’s clear that you need to set aside at least £100 – ideally more.

Budgeting and Forecasting

When it comes to budgeting, I find that a simple spreadsheet that breaks down pots of money based on percentages works best.

The spreadsheet can be made fairly quickly and should break down both fixed and variable expenses. This allows you to stress test your plan against your current turnover, forecasted turnover and a range of other options.

By taking the time to do this, you can double check that the plan works against any reasonable amount of turnover. If you end up with a negative return at any level of turnover that you could reasonably achieve, then you’ll need to rework the plan.

Cost Savings Where They Won’t Slow You Down

While we may be a little biased here, save money in areas that won’t slow you down. That’s the entire reason that we exist, we’re passionate about reducing financial waste for business owners.

For that reason, we recommend that you regularly review any business finance products that you have, as well as your business insurance, such as commercial property insurance, professional indemnity insurance and employer’s liability insurance.

On top of this, make sure you’re getting the best deal on your business utilities, such as business energy, business broadband and phone lines.

Make sure you have the best business bank account too, as switching providers can offer significant benefits and mean much lower fees.

Using Tech and Tools To Manage Your Finances

Finally, make use of tech wherever possible to assist you in managing your finances. Online accounting tools such as Xero, Sage and Quickbooks can help you with your bookkeeping and accounting tasks.

Cash flow forecasting tools are also available online which can really help you to manage your finances and ensure things stay on track.

Take the time to look into these and look to find out what others in your industry use. If your accountants have other clients in your industry, ask them. The more you look into these things, the more options tend to come to light – just make sure you plan ahead and then stick to the plan, don’t get lost in endless financial planning.

Income comes from doing, this should be a framework to ensure your work remains efficient and robust.

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