Every small business failure is unique in terms of the particular decisions and events that precipitated it, but there are some common mistakes. Sometimes the problem is obvious, like there simply isn't enough demand for the product or service, or that the pricing strategy was off and the product or service was priced in a way that didn't consistently generate enough profit. Sometimes the problems aren't so easy to identify and analyze. But with every business that succeeds, the numbers simply have to add up in specific ways.
When a small business owner doesn't understand the importance of the math behind the business, the business is less likely to succeed. That doesn't mean that the small business owner has to have advanced mathematics skills, but he or she does need to understand fundamental concepts of business planning, budgeting, cash flow, sales projections and pricing strategies. If you're a small business owner, you must look at the numbers your business generates and learn what stories they're trying to tell. Here are a few examples of how "doing the math" is vital for business success.
A Solid Business Plan Is Your Foundation
Don't make the mistake of thinking you don't need a business plan if you're not applying for a business loan. Whatever the source of funding for your business, a business plan that includes your mission, clear goals, estimates of expenses, a marketing plan, and cash flow projections is highly beneficial. Your business plan is something you can turn to when making decisions, it reminds you why you went into business in the first place, and it can help you avoid wasteful habits while developing smart ones.
A Budget Provides a Strong Framework
As a business owner, you need a practical budget to provide guidance as you do all the hard work required to keep your business running. Your budget isn't a fixed, static entity, but having one will keep you moving in the right direction. It should be comprehensive, and even so, you can expect unanticipated expenses to arise as you go along. Learn from these expenses and include them in future iterations of your budget.
Understanding Cash Flow Can Prevent Funding Headaches
Cash is king in business, and your need to make business decisions based on up-to-date financial information. Obviously, you must manage your current cash balance with care, but you also need to take steps today to make managing cash flow tomorrow easier. Map out your best projection of your business's cash-to-cash cycle and monitor it, take special note of your client's payment terms. As long as the cash flowing in is greater than cash flowing out, your business operates profitably. If the opposite is true, you need to sit-down to reexamine your income and expenses to figure out your options for increasing sales.
Your Balance Sheet Is Your Friend
You already know how quickly business moves today, and how quickly you sometimes have to make decisions. Decisions about your business should be made based on your most current and accurate financial data. By the 15th of every month, you should have your financial statements to review. Your balance sheet summarizes your company's assets and liabilities, and the latest balance sheet helps you make smarter decisions and avoid getting into financial difficulties. Balance sheet software is readily available, or you ask your accountant or bookkeeper to help develop a balance sheet templates for your business.
There's Art and Science to Setting Prices
Your pricing formulas will have to be revisited and adjusted periodically. The correct pricing of your products and services is critical. Unfortunately, many business owners don't devote enough attention to sound pricing practices. You have to understand all of your underlying costs in order to determine a profitable price. Your understanding of your hard and soft costs is key to calculate your gross margins. You also need to account for how long, on average, invoices spend in accounts receivable. This knowledge will help you price your products and services so they're both competitive and earning a profit.
As a small business owner, your willingness to understand the importance of "Getting Over Your Fear of Math" and to keep track of your business finances is vital to your success. The point is to not only quantify how well your business does in terms of dollars and cents, but also to identify and correct problems early, and to understand how you're progressing toward your financial business goals.
If starting a business is in your future, I encourage you to download two free chapters of my book, Become Your Own Boss in 12 Months.