The ease of starting a business nowadays has led to an increase in the number of new ventures. According to the U.S. Census Bureau, nearly 5.4 million startup applications were filed in 2021, which is significantly higher than previous records.
However, many of these businesses will likely fail within the first few years. In a survey conducted by the Bureau of Labor Statistics in 2020, 20 percent of new companies do not reach beyond their first year. A lack of financial management is one of the primary reasons why some of these businesses go under.
How to Manage Business Finances
Managing finances, whether for large or small businesses, can be a complex and daunting task. However, taking the time to understand the basics of financial management is essential for any business owner or manager.
Here are a few tips on managing your business finances:
1. Separate Business and Personal Finances
The first tip in managing your finances is establishing a clear separation between your business and personal funds. According to the U.S. Small Business Administration, one of the biggest financial mistakes you can make is commingling these two. This practice can lead to issues such as difficulty tracking business expenses and income, trouble with taxes, and more.
You can avoid problems by separating personal and business finances from the start.
Below are some ways to do this:
Open a business bank account
A business bank account is a crucial component in keeping your finances separate. This account is what your company will use for all business transactions, such as deposits, withdrawals and payments. You can also open a business checking account alongside your bank accounts to help manage day-to-day finances. Doing so will help you easily track your company’s operating expenses and income, preventing future financial issues.
Get a business credit card
Another way to separate your business and personal funds is by getting business credit cards. These are different from individual credit cards because they offer additional perks, such as cashback, rewards points and more. They can also help you build a business credit score, which is essential for getting loans and other types of financing in the future.
2. Learn How to Create Financial Statements
Financial statements determine a business’s financial standing. It shows whether a company is making a profit or loss. Essentially, creating a financial statement involves recording, classifying and summarizing a company’s transactions to get an overview of its financial position.
There are four primary types of financial statements, including the following:
This statement shows a company’s liabilities, assets, and shareholder’s equity at a particular period. It helps calculate the business’s net worth. The typical formula for a balance sheet is: Assets = Liabilities + Shareholders’ Equity
Also called a profit and loss statement, an income statement shows a company’s revenue, business-related expenses and net income or loss over a period. Income statements usually cover a specific quarter or year. The equation for an income statement is: Revenue – Expenses = Net Income (or Loss)
Cash Flow Statement
This statement shows the cash that flowed in and out of business. This statement is crucial because it helps managers keep track of a company’s liquidity, which is the ability to pay its short-term debts. The equation for a this statement is: Cash Flow from Operating Activities + Cash Flow from Investing Activities + Cash Flow from Financing Activities = Net
3. Use cost-benefit analysis (CBA)
Purchase decisions are a large contributor when you need to manage your business finances, and each decision has its own set of risks and rewards. Business owners and managers can use cost-benefit analysis (CBA) to aid decision-making. CBA is a tool that helps identify whether the benefits of an action outweigh the costs.
To do a cost-benefit analysis, you must first list all the possible costs and benefits of a proposed action. Once you have these, you can assign a monetary value. Finally, you can compare the total price with the total benefit to see if the benefits outweigh the costs. pay
What are the Different Accounting Methods for Business?
There are two types of accounting methods or bookkeeping systems to keep in mind when starting a business: cash-basis and accrual accounting. The method you choose will affect how and when you record transactions.
Under the cash-basis method, businesses only record transactions when cash changes hands. Companies don’t have to wait until an invoice gets paid to record revenue. It is the simplest method and often gets used in most business records.
The main advantage of this method is that it’s easy to understand and use. The main disadvantage is that it doesn’t accurately picture your business’s financial health because it only records transactions when cash changes hands.
Nonetheless, this method is still valuable for giving you a quick and easy way to track your company’s income and expenses.
With the accrual method, businesses record transactions when they occur, regardless of when cash changes hands. So if you make a sale on credit, you would record the revenue immediately. A benefit of this method is that it gives you a more accurate picture of your business’s financial position. However, it can be more challenging to keep track of and understand as it involves more complicated recording.
Businesses typically start with the cash-basis method and then switch to the accrual method as they grow. If you’re unsure which accounting method is suitable for your business, speaking with an accountant or bookkeeper is a good idea. Accounting software might also offer both options.
How to Extend Small Business Finances?
Every small business has a variety of options when it comes to extending its finances. Business owners can do the following to get the financing they need:
Check out loans for small business owners
Banks and financial institutions offer small business loans specifically for startup ventures. A business loan can get you the money you need to grow your business. The application process for a small business loan is usually straightforward, and you can often get pre-approved before formally applying.
Look into government programs
The government offers business financing programs to help small businesses, including loans, grants, and tax incentives. By doing some research, you might be able to find financing that’s right for your business.
Small business owner lines of credit
Every business owner should have a line of credit they can tap into when needed. It gives you access to funds in an emergency or unexpected expense. It can help with debt financing and act as a safety net for your business.
Why Do Businesses Need to Manage Their Finances?
The significance of managing business finances cannot be overstated — poor financial management is one of the main reasons businesses fail. By understanding and keeping track of your company’s financials, you can make sound decisions that will help your business grow.
Additionally, sound financial management can help you avoid legal trouble. If you’re ever accused of financial misconduct, you’ll be glad you took the time to manage your finances properly. Finally, ideal financial management is essential for attracting investors and obtaining financing.
When it comes to business finance, there are many aspects to keep in mind. From tips on managing small business finances to the different financing options, considering the above information will help you make the best decisions for your company.
The most important thing to remember is that knowing how to manage small business finances is essential to the success of your business. By taking the time to understand your financial situation and make sound decisions, you can ensure that your business is running smoothly and remains successful for years to come.