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Fatal Errors
9 Financial Mistakes To Avoid If You Want To Survive The
Economic
Downturn
By Don Sadler
In the best of times,
making financial mistakes can set a micro-business back. In tough economic times
like we’re facing today, though, making those same mistakes can be fatal.
The financial crisis that has rocked our nation over the past year has
made small-business success that much more difficult, magnifying financial
missteps even more than usual. To dodge the landmines that may lie ahead,
consider these nine common micro-business financial mistakes and how you can
avoid making them.
1. Becoming A Stranger To Your Banker
“There has never been a time when it’s more important to communicate
with your banker about everything that’s going on in your business—the good, the
bad and the ugly,” says small-business expert Jim Blasingame, host of the
syndicated Small Business Advocate radio program and author of “Three Minutes to
Success” (SBN Books, 2006).
“Don’t be a cave dweller,” Blasingame says.
“Tell your banker about your concerns, ask for help. In short, make your banker
a true partner in your business. Remember: Your banker should be your business’
best friend.”
He recommends that small-business owners have at least two
banking relationships—one of which is with an independent community bank.
“This is because community banks are locally owned and managed and are
more likely to weather an economic downturn than the large banks,” he explains.
“In past recoveries,” he continues, “there was a healthy credit industry
waiting for small-business borrowers to come back. But this time, there will be
fewer credit players, so small-business owners will have to maximize all credit
opportunities available by building better banking relationships and being more
creative with capital acquisition.”
2. Not Understanding
Capitalization Challenges
The credit crunch has made understanding
your business’ current and future capitalization requirements more important
than ever. Blasingame explains the steps involved in determining how much
capital will be required to keep your business running.
“First, you must
determine how much you’re going to sell and how much you’re going to buy,
whether this be for inventory, operating expenses, equipment, etc. Next,
estimate how long it will take to collect your receivables and how quickly you
must pay for your purchases.
“Then plot all of this out on a financial
operating timeline. Any negative numbers in the timeline represent capital
shortfalls and when they will occur, which will need to be funded via investment
capital, retained earnings or debt.”
3. Using Cash Instead Of Accrual
Accounting
Switching to accrual accounting is one of the most
important financial steps a small-business must take as it grows, says Marilyn
Landis, president of Basic Business Concepts, Inc., a financial consulting firm
in Pittsburgh, Pa.
“Owners often don’t think they’re big enough to
switch to accrual accounting, or they don’t understand it,” she says. “But good
cash-flow management requires accrual accounting.”
Here’s why: With cash
accounting, revenue, expenses and profits are reflected only for the period
being measured (such as one month), which makes it difficult to accurately match
revenue to expenses.
“Your business might look profitable during months
when you have few expenses, and unprofitable during months when you have large
expenses, but you have no real way of knowing either way.”
Accrual
accounting gives you a clearer, more realistic picture of your overall profit.
4. Not Producing Regular Financial Statements
You should
commit to producing a balance sheet, income statement, and profit and loss
(P&L) statement at least quarterly. And you should commit to understanding
how you can use those statements to manage your business better.
Landis
says that ignoring the balance sheet is one of the most common accounting
mistakes she sees.
“This goes back to the importance of accrual
accounting, in which costs like inventory or work-in-progress are reflected on
the balance sheet. If owners aren’t using this, they can’t accurately gauge
their profits or any long-term financial trends. I call it living as a
flatlander in a two-dimensional world—owners must focus on all three financial
statements together in order to get the full three-dimensional picture of their
company’s financial situation.”
5. Using An Inexperienced Bookkeeper
(Or None At All)
There comes a point where the sophistication level
of a small business’ bookkeeping needs to be ratcheted up a few notches—beyond
what the owner, or the owner’s brother-in-law who does bookkeeping on the side,
can provide.
“Without more advanced accounting and bookkeeping, you
won’t be able to see the true financial performance of your business,” says
Landis.
“For example, when a job is complete, were the costs close to
what you forecasted? Did you collect the full amount you bid, or did you have to
take a discount? Your bookkeeping system needs to be set up in a way that
enables you to track all of this and determine your profitability.”
6. Co-mingling Personal And Business Finances
Having
enough revenue to separate personal and business finances is a big milestone for
self-employed individuals, says Blasingame. “But once achieved, they need to be
careful not to devolve back into co-mingling their finances. This often happens
if sales and revenue start slowing down.”
Landis says an overemphasis on
tax savings often leads to this mistake.
“Companies will expense instead
of capitalize an asset,” she explains. “This reduces their taxable income, but
ownership of the asset isn’t demonstrated on the balance sheet, so the true
value of the company isn’t reflected.”
7. Losing Touch With Your
Customers
In a down economy like we’re experiencing today, it’s
likely that your past-due receivables may increase as customers stretch out
their payments to preserve their own cash flow.
To combat this,
Blasingame recommends staying in close touch with all of your customers,
especially the customers who generate most of your revenue.
“Customers
are likely to pay you faster if they see you face to face,” he says. “So try to
get out and see them in person. Ask if there’s anything you can do to help them.
If they’re struggling financially, try to work something out.”
8. Not
Watching Costs Carefully
Now is the time to trim any and all
unnecessary fat from your finances. Start with the little things: Are you paying
excessive bank fees in the form of monthly checking account, ATM and overdraft
fees?
What about your telephone, Internet and wireless plans? Costs are
coming down in many markets due to increased competition. Ask your service
providers how you can save (perhaps by bundling these services together).
Think twice before sending packages overnight. Using a two- or three-day
option will often suffice at a fraction of the cost.
Also pare back
travel and entertainment costs by conducting meetings via videoconference
instead of in person whenever possible and searching the Web for airfare and
hotel deals when you must travel.
Cutting marketing costs can be a
little trickier. Your first instinct may be to slash the marketing budget when
things get tight, but this can backfire.
Economic downturns may actually
be a good time to increase your marketing costs while your competitors are
cutting back. At the least, you should make sure that the marketing dollars you
are spending generate measurable results. Eliminate any programs that don’t.
9. Carrying Too Much Inventory
Blasingame says
micro-business owners must understand the benefits of monitoring inventory
levels with regard to projected sales, receivables and cash.
“Any SKU
[stock-keeping unit] that isn’t one of your top sellers shouldn’t spend the
night under your roof, unless it’s paid for and waiting to be delivered,” he
says.
He emphasizes the importance of using just-in-time inventory
management practices, in which inventory is delivered just as it is needed
rather than days or weeks early, thus saving money and inventory storage space.
“If your inventory strategy is just-in-case instead of just-in-time, you
are costing your company money and probably putting yourself in a noncompetitive
position,” Blasingame says.