By: Connor Donovan, CFP®
Entrepreneurship isn’t for the faint of heart. There are so many issues to manage, like funding, personnel, and operations, it can be tempting to put the financial management of your business on the back burner. What’s more, the founder’s wealth is inherently linked to the success of the business, which can create a tangled financial web if you aren’t careful about setting up the proper systems.
Below, we’ll tease out the top 5 financial challenges we encounter when working with entrepreneurs, and provide tips to help you keep your company solvent, profitable, and productive.
Cash Flow Shortages
There’s a good reason why cash flow is often called the “lifeblood” of a business: without a steady flow of cash into the coffers, businesses can’t meet their regular operating expenses such as payroll, mortgage or rent, utilities, and raw materials and inventory. Businesses can survive for a time without profits, but it takes cash to keep the doors open.
The best way to avoid cash flow shortages is to tighten up your cash flow cycle. This is the movement of money through your business — from the time cash is disbursed to pay for overhead, materials and equipment to the time when accounts receivable are collected. To tighten your cash flow cycle, you can collect your receivables faster, stretch out your payables further or preferably, do both.
Lack of Access to Capital
It’s not unusual for businesses to need to borrow money from time to time — whether to bridge temporary cash flow gaps, purchase raw materials, or take advantage of growth or expansion opportunities. Instead of waiting until a financing need arises, it’s better to plan ahead and arrange for financing before you actually need the funds. There are six main paths to accessing capital:
- Venture funding for young companies with strong growth potential.
- Private equity for those willing to give up equity in exchange for cash.
- SBA-backed loans. These can be difficult to get and loan amounts are typically small.
- Bank loans, which are dependent on collateral and consistent, growing revenue. For small business owners, loans can be dependent on your personal credit and assets.
- Friends and family and personal savings—the most popular option, based on data from the Bureau of Labor Statistics.
- Business line of credit which can provide flexibility that a regular business loan doesn't.
What we like about a business line of credit is that after you’re approved, you’ll be able to easily access funds up to your credit limit for whatever purpose you need. As you repay funds, the money becomes available for you to borrow again as other needs arise. Business lines of credit are usually best for short-term financing needs like working capital — term loans are better for longer term needs like mortgages or equipment.
Comingling Business and Personal Finances
One of the cardinal financial rules of running a business is that business and personal finances should always be kept separate. However, one survey revealed that more than a quarter (27%) of entrepreneurs did not maintain a separate bank account for their business. In addition, 23% of entrepreneurs said that mixing (or comingling) business and personal finances was a challenge for them.
Comingling business and personal finances can lead to several different financial problems. For example, it makes it harder to monitor cash flow and can be seen as a red flag by internal and government auditors. Avoid this worry by managing all your business finances via a business checking account and business credit card. Use your business card for all your business-related expenses so that you can substantiate deductions when tax season comes around. Lastly, be sure to pay yourself a set salary, versus just paying yourself ad-hoc amounts based on profits.
Tax Compliance and Getting Audited
As discussed above, cash management is already a challenge so there’s no point in making it worse by overpaying the IRS. Even so, up to 85% of small businesses overpay on their federal income taxes each year. On the other end of the spectrum, some businesses underpay and wind up paying more in penalties and fees.
For this reason, it’s often smart to outsource tax preparation and planning to a qualified accountant or CPA if you don’t have one on your staff. This will lessen the chance that you under- or over-pay your taxes. And if you are ever audited, your CPA will be a valuable resource to help you prepare for the audit. Additionally, it’s important to connect your CPA with your financial advisor to explore the range of tax planning opportunities that come with business ownership. It’s important to have an advisor in the mix who is viewing your entire financial picture (both business and personal).
The Economic Environment
The broad economy goes up and it goes down — economic cycles are inevitable. The best you can do is try to prepare your business to weather the downturns and take advantage of the upturns.
To weather downturns, arrange for financing ahead of time (as discussed above) and build up a solid cash reserve to hold you over if sales and revenue slow down for a season. The same strategies can help you benefit from economic upturns: Having access to financing and cash reserves can give you the financial flexibility needed to take advantage of growth opportunities that may emerge during an economic expansion.
How A Financial Advisor Can Help
A Simon Quick advisor can help you plan for ways to deal with these and other financial concerns around your business. To learn more, call us at (973) 525-1000 or send an email to firstname.lastname@example.org.
About Connor Donovan
Mr. Donovan joined Simon Quick in July 2017. He is currently an associate on the client advisory team. He is responsible for supporting the Partners and Client Advisors in assisting with financial planning for clients, implementing investment plans, preparing investment performance reports and coordinating client communications. Connor completed the Financial Planning Certificate Program at New York University in December 2019 and became a CERTIFIED FINANCIAL PLANNER™ practitioner in July 2020. Learn more about Connor on LinkedIn.
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