small business
It’s all in the numbers
Blasingame. “If there were no taxes, if everyone
paid cash on the barrel and if we didn’t keep
inventory, then marketplace timing would be
eliminated and managing business finances
would be easy. But such a business is fictional.”
So, which is more important—cash flow
or profit? They’re equally important, for different reasons. Every business wants to make a
profit, of course, but every month or year may
not be profitable.
ARTVILLE
“You can work through an unprofitable
period with well-managed cash flow,” says
Blasingame, “but even a profitable business
won’t last long without cash. Therefore, owners
should manage their business for profitability,
but operate it for cash flow.”
How to know if your business is making money
By Don Sadler
MOST ENTREPRENEURS START their
businesses because they are good at something, whether it’s manufacturing or selling a
product or providing a professional service.
But a lot more goes into running a successful
business than manufacturing or sales skills.
Without a solid understanding of financial
management, practically any small business is
doomed to failure, notes Gene Siciliano, a
Costco member and the president of Western
Management Associates in Los Angeles.
Siciliano compares running a successful
small business to a three-legged stool: One leg
is your product or service, one is your ability
to sell and deliver it, and the third is managing the financials. “Finance is typically the
weakest leg, but it’s just as important as the
other two,” he says. “Your stool will be unstable if financial management remains weak.”
Three to watch
While the specific details of financial
management vary from one business and
industry to the next, Siciliano recommends
that owners pay especially close attention to
these three measurements:
1. Days sales outstanding (DSO). In
other words, how many days of sales are sitting
uncollected in your accounts receivable? “A
growing DSO may lead to cash-flow problems
if collections aren’t accelerated,” notes Siciliano,
who adds that, in the current economy, a DSO
of 45 days or less is generally acceptable.
The formula to measure DSO is to divide
accounts receivable by annual sales and multiply by 365: DSO = (Accounts Receivable ÷
Annual Sales) × 365.
2. Inventory turnover. This measures
how fast inventory is moving through your
warehouse and off your sales floor. “If inven-
tory turnover is slowing down, this means
your cash that is tied up in inventory is grow-
ing in relation to your sales,” Siciliano
explains. Ideal inventory turnover varies
widely among industries, he adds: “It’s more
important to monitor trends in your inven-
tory turnover and strive for improvement.”
The inventory turnover formula is cost of
goods sold divided by inventory equals inven-
tory turnover: Inventory Turnover = Cost of
Goods Sold ÷ Inventory.
3. Current ratio. This measurement is
used frequently by investors and lenders to
gauge liquidity—in other words, whether you
have enough current assets on hand to pay bills
on time and run your operations effectively.
“For an inventory-carrying business, a good
current ratio is 2-to- 1, while 1.5-to- 1 is a good
number for a business without inventory,”
says Siciliano.
To measure current ratio divide current
assets by current liabilities: Current Ratio =
Current Assets ÷ Current Liabilities.
How financial advisers can help
If you don’t have financial expertise yourself and can’t afford to hire a full-time controller or CFO, you could hire an outside adviser to
help you with financial management. Siciliano
uses the acronym ARTistic to describe the kind
of assistance a financial adviser should provide.
He explains, “Your adviser should produce
financial information for you that is accurate,
relevant and timely. He or she should not only
help you understand the information, but also
explain how you can use it to make better deci-
sions and improve financial management of
your business.”
A financial adviser can also help you
implement sound internal control systems to
guard against employee theft and embezzle-
ment. “One of the best ways to deter fraud is to
segregate duties by spreading financial respon-
sibilities among several different employees,”
says Bert Davis Jr., a Costco member and fraud
specialist with Gilliam Coble & Moser LLP in
Burlington, North Carolina.
“For example, bank reconciliation should
be done by someone who does not have access
to daily checkbook transactions,” Davis sug-
gests. “And at least two separate employees
should open the mail, fill out deposit slips and
enter cash receipts in the books.”
If your business stool is wobbly, decide
today to shore up financial management. Your
company’s long-term success may very well
depend on it. C
Don Sadler ( don@donsadlerwriter.com) is a
freelance writer based in Atlanta who specializes in topics related to business and finance.
Profits versus cash
Jim Blasingame, the founder and host of
radio program The Small Business Advocate
Show and the author of Small Business Is Like
a Bunch of Bananas (SBN Books, 2001), says
that one of the most common financial mistakes made by small-business owners is not
understanding the difference between profits
and cash. “It comes down to understanding
the concept of marketplace timing,” says
Costco offers members several services
that can help with their financials, including
Intuit Online Payroll, Intuit 401(k), Intuit
Quickbooks Online and Elavon Merchant
Credit Card Processing. For more information about these and other services, visit
Costco.com and click on “Services.”
