A sound grasp on financial literacy will help you understand the financial health of your business, enable effective decision making, and set the stage for business longevity.
According to Statistics Canada, 85 per cent of startups survive their first year and only 62 per cent make it to their third year. By the fifth year, only 51 per cent are still in business. As many of these business owners would agree, lack of financial literacy is a significant factor in the longevity of small businesses – 82 per cent of all business owners surveyed wish they had invested more time in improving financial literacy.
Business owners may depend on well-informed accountants for support, but if they don’t also have the essential financial knowledge to effectively manage and invest the money their businesses are generating, they could be putting the businesses in serious jeopardy.
Here are 4 key areas of financial literacy to consider in order to grow and maintain a business:
1. Have a clear vision of your business and personal financial goals
As a focused entrepreneur, your business, personal and family financial goals will inevitably become intertwined. For example, when your business makes a profit, will you invest that money back into the business, or pay yourself some money to invest in a Registered Retirement Savings Plan (RRSP), Tax-Free Savings Account (TFSA), Registered Education Savings Plan (RESP)? Will you simply pay down your home mortgage?
It’s important to be able to articulate and stay focused on your goals in the short and long term. Forecast how much revenue—and more importantly, profits—are needed to realize your goals so you can take solid steps to achieve it.
2. Record and track business income and expenses
Business owners need to accurately record revenue and expenses.
Accurate records enable you to gauge the financial health of the business and facilitate meaningful discussions with your accountant. Maintaining your financial records in an accounting system will provide an up-to-date view on many financial aspects of your business, such as monitoring the cash “burn rate” as you move from losing money into a profitable state.
3. Cash flow is the lifeblood of a business
The ability to ensure a healthy cash flow is essential to business longevity, and in order to do so you need to have a thorough understanding of cash flow management.
Important aspects of cash flow include the timing of accounts payables and receivables, inventory turnover, and fixed expenses. Cash flow management is another area in which an accounting software can help, as it can help you identify late paying customers and accurately track your monthly expenses with ease.
4. Closely monitor key business financial statements
The income statement, balance sheet, and cash flow statement are the three major financial statements of concern.
These financial statements provide key indicators of the “health” of your business and each tells a different part of the story about your company’s financial condition. They will also be important if you need to take out a short-term loan with a financial institution, or are faced with an audit by the Canada Revenue Agency.
Fortunately, it’s not that difficult to learn the basics of financial literacy. You can work with an accounting professional to help you understand the various financial aspects of your business. And, you can rely on accounting software to help you learn what’s going on with your business finances and give you the up-to-date information required to support sound decision making.
David Rumer is a former small business owner and has extensive experience working with businesses of all sizes. Based in Toronto, he is vice president of market development for Sage Software. David can be reached at email@example.com
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