For most small business owners, a solid financial strategy is essential for growth and overall financial success.
Small businesses are particularly vulnerable to the overall economic cycle, now more than ever. Expert planning from the start can help small business owners weather difficult conditions with confidence while growing the business towards a prosperous exit with an increased amount of cash and maximum profits.
A successful financial strategy needs to take into account all aspects of a small business
Small businesses usually start with a great idea, however, many successful business owners will tell you that this is just the beginning. The expert execution of that idea through an expertly-planned business strategy is just as important.
With the exception of external economic events, the recipe for business success is fairly straightforward: keep cash flow positive, manage debt responsibly, and keep an exit strategy in mind for when the business runs its course. While that sounds simple, unforeseen events make the reality of running a small business unpredictable.
That’s where a comprehensive, effective and expertly planned business strategy comes into play. While all businesses are different, three basic ideas constantly emerge that can form the basis of a successful business strategy. They include:
1. Proactive Cash Flow Management
Most business owners understand that cash flow statements can communicate cash flow issues on a periodic basis. But rather than waiting for these problems to appear in the statement, it pays to be proactive by cultivating practices in the present that can produce increased cash flows in the future. These include:
- Setting higher sales goals, activating marketing promotions, and increasing sales opportunities for different markets and demographic groups.
- Taking advantage of any discounts offered by vendors for early payments.
- Earning cash interest through higher-yield savings accounts.
- Leveraging accounting software to activate reminders to send invoices for discounts or to send notifications when promotions expire.
- Cutting expenses for unnecessary goods or services - one of the most effective ways to turn a negative cash flow into a positive direction.
- Improve inventory turnover, liquidate items that don’t sell well in order to make room for products with higher demand and profitability.
- Increasing prices for high-demand products or services that may be too low.
- Improving accounts receivable turnover by offering discounts that encourage customers to pay in advance or set up automatic payments.
- Taking advantage of cash-back business credit card programs.
Some key cash flow KPIs to keep an eye on
Along with cultivating good business practices during the course of regular operations, keeping track of KPIs can also ensure that your business is on the right track. There are dozens of key KPIs a business can monitor. Some of the most important ones include:
Operating Cash Flow/Free Cash Flow
Operating cash flow determines if a business can generate enough money to pay expenses and grow operations.
Working capital is the ratio of a company’s current assets to its current liabilities. It clearly indicates if a business can pay its short-term debts with highly liquid assets.
Accounts Payable Turnover
The accounts payable turnover ratio determines the ability of a business to pay off its suppliers and other vendors.
Accounts Receivable Turnover
The accounts receivable turnover ratio represents how efficient a business is at collecting money owed by customers.
Inventory turnover measures how effectively a business can turn over goods in a given time period. A low turnover ratio may indicate low sales, poor product selection, and/or ineffective marketing.
Net Profit Margin
The net profit margin ratio represents the amount of net income created as a percentage of revenue. This is a key indicator of the profitability of a business.
2. Responsible Debt Management
As I write this, the entire world is undergoing a severe recession created by policy decisions connected to COVID-19.
It’s not a secret that levels of business debt are increasing dramatically due to the forced closures of small businesses. This has created widespread panic among small business owners in all industries.
Initiatives such as the CARES (Coronavirus Aid, Relief, and Economic Security) Act, the Paycheck Protection Program, a temporary line of credit, or an associated debt program can provide temporary small business debt relief. Unfortunately, these programs cannot last forever.
Knowing how to pivot and make changes to overcome debt in the present can ensure your business makes it through this challenging time.
Get to know your cash flow-to-debt ratio and monitor it regularly. Improve cash flow through the strategies mentioned above while reducing as much debt as possible. Cutting spending, making a debt repayment schedule, and entering a debt restructuring/consolidation or loan program are among many ways to reduce debt.
3. Exit Strategy Planning
While many business owners are caught up in the details of starting a business, few consider the exit strategy. Setting up a business for financial success at the start can guarantee a smooth succession strategy when the time comes to cease operations.
There are many common exit strategies that apply to different circumstances. The most common ones include:
- Leaving the business to immediate family members or relatives.
- Merging the business with a similar or complementary business.
- Selling the business - either for its assets or its employees (widely known as “acquihire”).
- Selling the business to current managers and/or employees.
- Selling a stake of the business either privately or as a public company.
- Closure of the business and liquidation of all assets.
The choice of exit strategy depends greatly on the goals of the business owner. Those who wish to ensure the continuity of their business often prefer to leave the business to family members or loyal employees. Others that started the business purely for income opportunities have no issue with liquidation, closure, or bankruptcy.
Each situation has its most suitable exit strategy according to the goals, the financial position of the owner, and the state of the economy. Identifying the best exit strategy as early as possible guarantees greater success and profitability when the time comes to cease operations.
The right accounting firm can help you establish an effective financial strategy that works for growing your business and exiting it profitably.