5 ways to make your business financially sustainable
Business financial sustainability is like that 2000s meme girl—hard to find and easy to lose. Especially if you don’t know what indicators to monitor and what to work on in these “difficult relationships”.
Someone believes that if he just covers his expenses and does not allow cash gaps, then he is quite firmly on his feet. But not everything is so simple. For a company to be considered financially sound, it must be able to easily adapt to a changing market and grow in profits and capital even during times of turmoil. Our five-step guide will help you achieve this state.
But first things first.
Four levels of financial stability of the company
The very concept of financial stability is large-scale, and it cannot be unequivocally said that everything is super with the company or vice versa. But there are four levels of business financial stability that will help you navigate:
Absolute sustainability – this is the case for companies that have enough money to cover their costs at their own expense. That is, they do not depend on loans at all: they have their own money, which is enough for everything, but there are no loans. Not a company, but a dream.
Normal sustainability is when business expenses are covered by own and borrowed funds. We can assume that a company has normal financial stability if the amount of its liquid assets – those that are easily converted into money, such as inventory and receivables – is greater than the amount of loans and credits. That is, in which case, the company can quickly receive money and pay off debts.
Ideally, if the capital is twice as large as all loans and credits.
Pre-crisis state – when a company starts having financial problems, for example, cash gaps, but it can solve them if it sells inventory, collects receivables, takes all its money and pays off debts. If after that the company remains in a small plus, its condition can be considered pre-crisis.
Crisis state – the company does not have enough money to cover expenses and debts. At the same time, if she sells everything, everything will still not be enough. In this case, we can say that the company is moving towards bankruptcy.
Express test for financial stability
To quickly assess how financially sustainable a business is, you need to answer one question: if the market changes tomorrow, will the company withstand these changes? Anything can be understood here as changes: new competitors, a crisis, changes in laws, price increases from suppliers.
Typically, changes are easily tolerated by companies that:
1. there is where to get money from – here the company’s own capital, investments, and loans and loans with a long term at an adequate interest rate are considered sources;
2. there is an airbag – these are savings that will help you stay afloat in a difficult period.
3. Let’s imagine a situation: a company sells foreign goods. To save on shipping, she brings goods by ship in large quantities. But then the pandemic freezes the world, and you have to change steamships for airplanes. That is, now the company can transport only small lots and much more expensive.
So: if the company from the example has an airbag and enough money to deliver by plane and stay in the black, it will survive the crisis.
To move towards the level of absolute financial stability, a company needs to regularly repeat five actions:
1. plan expenses and income in advance;
2. make sure that income is higher than expenses;
3. grow profits;
4. check that there is more money of one’s own than credit;
5. hoard airbag.
Let’s talk about these steps.
1. Plan cash flows for the week, month and year
There is such a story with financial stability: there are fundamental indicators, coefficients that need to be directly calculated, but there is a thing that everyone understands – money. Let’s start with them.
If more money comes into the company than it leaves, and there is enough of it to pay for rent, goods on time, pay salaries and pay taxes, then at the level of cash flow it can be called financially stable. But if a company falls into cash gaps all the time, then there is no smell of stability here.
To make sure that everything is okay with the cash flow, two tools help: the payment calendar and the cash flow budget, BDDS.
A payment calendar is a document that shows how much money and when the company will receive and how much and when it will spend.
The payment calendar protects against cash gaps: it can be used to see when the company is at risk of falling into such a gap and make sure in advance, for example, reschedule a large payment or ask the client to pay early in exchange for a discount.
The payment calendar looks like this:
Click to enlarge
The payment calendar shows when and how much money the company will receive from customers, and when and how much it will need to pay suppliers, employees, landlord
The cash flow budget, BDDS is a plan of all receipts and payments of the company for the year ahead.
How BDDS improves financial stability
The company is a motorcycle shop.