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You may not be very organized with your financial records during the early stages of your business or side business. Fewer than half of small business owners monitor cash flow, and 65 percent of entrepreneurs who fail say they have mismanaged their finances.
The mismanagement can be because all income and expenses go to and from your personal account. Or both personal expenses and business expenses come and go from the same bank account. Because of this, you may not know what your income is or what expenses you have to pay in the coming months.
The situation is similar for the self-employed (freelancers, people in the side gig industry), Who “are not usually involved in financial practices that improve their long-term financial health.”
This is a big mistake. What is measured is improved. Likewise, what is not measured does not improve.
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Accurate financial information drives business growth
As a business owner, you need accurate financial information about sales, cash flows, and expenses for proper business planning and development. When you know the revenue and profit margins of each product or service, you can decide which products to focus on and which to abandon.
You can plan business growth and revenue increases with a marketing and advertising plan. On the other hand, if you don’t know the details of your sales, income, and expense data, you’re just going about every day and you won’t be able to make long-term financial planning.
A second reason why keeping financial records is vital is for business finance. Whether you’re planning to sell your business, get investors on board, or apply for a business loan, you’ll need to provide accurate financial records and future business plans. Investors, creditors and buyers want to see this information to decide whether it is wise to invest in your business.
For example, if your company’s revenue has grown 15 percent per year for the past three years, you can plan revenue and profit for the next five years based on past financial data. This information, also known as projected financial statements or pro forma financial statements, can spark investor interest. It also shows that you are organized and serious about your business success.
A profitable business has a greater chance of obtaining external financing through investment or debt financing. A profitable and growing business also has chances of getting a buyer, a goal many entrepreneurs have. Wouldn’t you like the chance to sell your business and start something new or invest in passive income sources?
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Gross profit is a crucial number for a new company
Many startups are not profitable in their initial phase or even break. You may think that’s bad, but if your business has steady sales and growth, that’s a positive sign, despite the net loss. For this reason, gross profit is the most critical number for a new company.
The gross profit is shown in the income statement and is calculated as follows:
Net sales minus cost of goods divided by services sold = gross profit
Gross profit is the number before deducting operating expenses (rent, bills, salaries, etc.) from income.
Let’s say you are a store owner who sells jewelry and your retail price per piece is $20, the cost to buy or produce each piece of jewelry is $9, and you sell 750 pieces per month.
Your total net sales are 750 X $20 = $15,000;
Your cost of goods sold equals 750 X $9 = $6750;
And your gross profit is $15,000 – $6750 = $8250.
When this number is positive and growing month by month, investors take that as a good sign, showing that the company has potential.
Related: Understanding the Difference Between Gross Margin and Markup
Your operating expenses, such as warehouse rent, salaries, bills, and office supplies, could be $8,000, giving you a pre-tax income of just $250, or you could even break even. But as long as your gross profit is positive and growing, this is a healthy sign.
When you keep accurate records and create financial statements, you can view the numbers and make critical business decisions.
You can make plans to increase sales through advertising. You may plan to keep operating costs stable or reduce costs. You can reduce the cost of goods sold by buying larger quantities in bulk or by finding another supplier that sells the same quality material for less. You may decide to hire an assistant and double the sales if the demand is high. You can choose to make your own product instead of buying elsewhere.
When you understand your numbers and can see them at a glance and analyze trends over time, your mind can create the right growth strategy for your business. Plus, you can present the information to potential investors and get much-needed funding. On the other hand, if you don’t know your sales, revenue, gross profit or net income, you won’t be able to plan growth or get investor interest.
So, in order to grow and expand your business, make sure you keep accurate business financial records and analyze them regularly.
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Janice has been with businesskinda for 5 years, writing copy for client websites, blog posts, EDMs and other mediums to engage readers and encourage action. By collaborating with clients, our SEO manager and the wider businesskinda team, Janice seeks to understand an audience before creating memorable, persuasive copy.