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Financial data should guide every business decision you make. This applies whether a business is a trillion-dollar behemoth or the small operation from which it grew.
Operating by intuition may work in the early stages of your business, but eventually, you may suffer from not having enough information. If you get involved with the wrong analytics tools, you may find your business ends up just as bad (or worse) from too much information, which is often called analysis paralysis. Before that happens, it is integral to the success of your business to learn how to collect and use financial data. This will let you make more informed decisions that help your business operate efficiently and grow successfully.
Related: Using Data Analytics Will Transform Your Business. Here’s How.
Data prevents failure
Failure happens. You’ve read again and again that after a decade, 70% of businesses will fail, and you certainly don’t want it to happen to you. So, if Item 1 on your business bookkeeping list is to keep records so you can prepare your taxes, Item 1-A should be to look at the information those records hold. Some of the first and most relevant information you can consider is the same data used to complete your Schedule C or Form 1120.
Accurate and organized data should be your first goal. If your filing process involves tossing receipts into your big desk drawer or neatly stacking them in a pile, stop that nonsense right now. At the very least, use a financial ledger to record the money coming in and going out of your business. Spreadsheet software can also help you organize that information, though it will require making time to enter the data (and back it up).
You can get some topline results even before looking at those detailed reports. Keep an eye out for trends in your data.
For instance, suppose you operate a food truck, and it turns out that your three best months are July, August and September. Can you make an inference about that? Knowing that you do half your business in those three months gives you the information you can use to hire extra help, schedule maintenance and put cash aside for future investment.
Looking for trends can help you determine which products to keep in stock or stop selling entirely. Looking carefully at invoices from your suppliers may provide you with a way to save money if you can buy advantageously when prices are low.
Related: The Secret to a Successful Startup? Focus on Accurate Financial Records
What you can learn from your financial statements
The financial story of your business can be told in three reports. These are the income statement, the cash flow statement, and the balance sheet.
- Income statement. The income statement is also known as the profit-and-loss statement. It sums up the money you collected from operations plus any other gains, as well as the money spent over a specific period of time. The basic formula is: Net Income = (Total Revenue + Gains) – (Total Expenses + Losses). You want your net income to be positive.
- Cash flow statement. The cash flow statement shows whether your business can pay its bills. This will give you a sense of where your business’ cash will come from and where it will be spent. Here you can also see customers that may “slow pay” to decide if they are putting your cash position in jeopardy.
- Balance sheet. Your balance sheet summarizes your company’s assets, liabilities, and owner’s equity (or investment in the business), providing a snapshot of the financial health of the business at a point in time.
The formats for these documents are available from many places, but it requires manually filling in the necessary data. For small businesses whose owners wear a lot of hats, having the data automatically extracted and applied to the proper account is simpler and will save you time and prevent errors.
Things to look for
Examine your income statement to see whether any of its critical components — such as sales or expenses — are increasing or decreasing. Unexpected changes may mean you have to alter some other part of your business (for instance, increasing prices when expenses grow). Late payments may mean you should charge clients upfront or offer direct payment options through your bank.
Look also for some ratios that can provide guidance. Net working capital is your current assets less your current liabilities. This is the amount of money you can use to operate the business day-to-day and invest in growth. The current ratio equals your current assets divided by your current liabilities. In general, if your ratio is 1 or less, you don’t have the capital on hand to pay your expenses, which is on the road to bankruptcy. If your debt-to-asset ratio (total liabilities divided by total assets) is high, borrowing has likely fueled your business growth and could lead to potential lenders seeing you as a credit risk.
Related: This Is the Biggest Mistake Entrepreneurs Make in Their Finances
Use the right tools and map your course, but avoid the weeds
Whether you’re a baker, a house painter or a real estate agent, your ability to earn a living will be based on how well you do your job, not your bookkeeping skills. Be that as it may, accurate, up-to-date books will give you the best chance to improve your profits. Not having enough cash to buy needed equipment or supplies can keep you from finishing current projects or planning future ones, constraining your small business growth. Using the right tools will reduce stress, provide extra time to focus on the business and give a better picture of what the business needs.
If you want to do your own books, simplify what you can. Be diligent about making sure they’re managed. That could mean a Saturday afternoon at your desk instead of on a golf course. It could be hiring a bookkeeper to make sure the details are attended to. Or it could mean using a platform that keeps financial documents in order and automates getting the data from your documents into reports. In the end, the first choice you should make about business decisions is how you’ll gather and preserve the data from which to make them.