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One mistake that is commonly made is not seeking financial help or advice from a professional. We recommend that businesses either work with an external accountant monthly or hire a CFO or Head of Finance internally.
The language of business is accounting and unless you are well versed in it—you are dabbling! Some owners will have copious numbers of reports and yet they have no idea how to read, interpret, or understand them.
Leaders generally have enough to do between generating new work, designing, and ensuring your existing projects are on track—the business needs to put an expert in charge of this area. By outsourcing the accounting function to a specialist service partner, the business can focus its attention on other key areas that directly impact its profitability. This will free up the directors to lead with confidence in a competitive market, with the knowledge that the finances are in safe hands.
Another mistake that businesses often make is not implementing a cash forecasting system. Cash can be your single most important asset - it’s the lifeblood of your business. You need a cash system that allows you to forecast, as accurately as possible, your cash in and cash out. This may start as a monthly forecast, but depending on your needs, it could turn into a weekly or even daily system.
Starting with historical numbers, you can build out your first cash forecast using either a cash management system or simply MS Excel. The first time you create your forecast, everything is based on historical numbers and future assumptions. Each month that passes is going to tell you something about the accuracy of those assumptions and give you the opportunity to assess and revise.
Ask yourself the following:
What was inaccurate about your assumptions?
Was this a “one-time thing”?
How can you refine your forecast based on the actuals that just happened?
A cash flow forecast, coupled with your P&L, gives you an accurate picture of the financial position of your business and where it is heading. Most importantly, it gives you the knowledge to make more informed strategic decisions. If you don’t have the capability or capacity to create cash flow forecasts, work with an experienced accountant to create them for you.
What is the difference between cash flow and profit, and why should it matter?
Firstly, profit and cash are different. Profit is the business’s earnings (revenue) minus the expenses (which are the costs that the business incurs to generate the revenue). Profit is simply put ‘a theory’ – because you can’t spend it.
Each business transaction will affect the profit and cash in different ways – and at different times. For example, paying salaries and wages, paying tax, purchasing computers and equipment, waiting on debtors to make a payment, or the creditors that have not been paid yet – all of these situations affect the profit and cash position differently.
Most of the time, the effect on the cash position can be delayed and occur after the change in your profit position. For example, say your fees for June were $500K – in by mid-July you are unlikely to have received any of the $500K that’s reported in your profit and loss statement. On the flip side – those salaries and wages incurred to produce the $500K worth of fees – say that equates to $250K incl on-costs – would have already been paid by now – and have reduced your bank account accordingly.
So, which one is more important? Profit or cash? The answer is more complicated—and the two are interrelated. As your business develops, the more you will probably need to invest in systems, equipment, additional people, and premises—all of which require cash. In most cases, you are investing this cash before you earn any additional profit, so to make more profit or grow your business, you will require more cash. Of course, you can also borrow it or receive it from shareholders or investors, but the point is, to understand how cash and profit impact each other.
In saying this, the age-old saying “cash is king” usually prevails. There have been plenty of profitable businesses that were forced to close because they ran out of cash. Having a loss on your Profit & Loss statement (P&L) does not mean you’ll go out of business, running out of cash is much harder to recover from.
Looking at just one of these metrics (profit and cash) doesn’t tell you the whole story. Just because you had a profitable month doesn’t mean you had a positive cash flow month. Similarly, just because you have cash in the bank doesn’t mean your business is performing well. That’s why cash flow and a P&L must be looked at together.
As a small business, sometimes it's hard to know when to enlist professional help and when to save money and do it yourself. At what point do you think it’s important to seek professional advice?
Most creative professionals start with a passion for design and execution. Their education and experience have prepared them for this, and it is what they excel at. However, creative people often do not have the education and experience to understand financial information and how it affects their business. Simply reporting finances is not enough, how can you use this information to make you more impactful and effective.
It’s important to what know your strengths are and which areas you can receive assistance from other experts, i.e. people who can not only prepare your numbers and reporting but interpret the financials for you and help you to make impactful decisions for your business.
Given this, seeking advice is necessary and important for your business from the beginning of your business. If you are a director or business leader, having a solid understanding of the current business finances and position will give you peace of mind, and the confidence to focus on the aspects of your work they are best at.
What are some steps you can take to manage your cashflow?
1. Hire an expert
By outsourcing the accounting function to a specialist service partner, the business can focus its attention on other key areas that directly impact its profitability. This will free up the directors to lead with confidence in a competitive market, with the knowledge that the finances are in safe hands.
2. Know your numbers
The language of business is accounting. How do you know where you need to go if you don’t know where you are?
3. Set your KPIs
Are you measuring your day-to-day activities? Have you set targets that align with your strategic plan? Analyse your data and select relevant metrics to help you define business success. For example, do you know your debtors days? This KPI has a direct impact on your cashflow and should be measured monthly. Do you know your % of technical salaries to fees? This is another valuable measure to use to keep your business in check.
4. Measure, measure, measure
Management guru Peter Drucker is often quoted as saying that “you can’t manage what you can’t measure.” What gets measured is what gets done. If you are not measuring it you are not managing your business effectively.
5. Compare/benchmark
You need to compare to how you are tracking year in year out as well as comparing your results with those of appropriate peers — that is, firms that are similar in size and business model to your own.
6. Take the right action — create change
Of course, knowledge without action won’t benefit your business. You’ve got to use the information you gather to make smart strategic moves that will enhance your success.