This article is the fifth in a series of articles that examines your business operations to determine whether your business is healthy and whether you are doing everything you can to maximize your profit, run efficiently and minimize risk. The first article, which appeared in the October 2010 issue, page 18, examined the legal structure of your business. The second article, which appeared in January, page 20, reviewed business agreements. The April article, which appeared on page 20, dealt with the physical location of your business. In June, page 18, insurance coverage was discussed. This month, I examine the financial systems of your business.
Routinely, business owners send bills to their customers, collect the money and pay their own bills. This process runs smoothly until customers are late paying, don’t pay at all or the company needs some expensive item for which there is not enough excess cash available after expenses are met. That’s when the owner scrambles to make ends meet, and it’s not the best way to run a business.
Ask yourself the following questions to be prepared for the unexpected:
Is your financial team in place? You need to hire people to give you reliable advice, including a bookkeeper, accountant, banker, financial advisor and attorney. Don’t wait for a crisis to find help.
How is your business capitalized? When you start a business, you commit money to lease a space, buy equipment, prepare marketing materials, hire employees, etc. This capital needs to be properly documented. Is it a loan or contribution? How are you going to get that money back? And what if you need additional funds? Where will they come from? Consider putting money aside from income to be available as required. This is called a reserve. You should also arrange a line of credit (even if you don’t need it right now) so that it is on hand when you need it. Some banks will give you a line of credit without requiring you to mortgage your home, which is always preferable.
Does your business have a considerable amount of debt? If the answer is yes, how will this be repaid? I routinely see business owners mortgage their homes and borrow against retirement funds to keep their businesses running with no clear picture of how this money will be recouped. Before you borrow money, have a repayment plan in place.
Have you personally guaranteed any debt? If you operate as a corporation and borrow money from a bank, the bank will require that you personally guarantee the loan. That means if your business defaults on the loan, the lender can come after you (and your personal assets) for repayment. If you can avoid a personal guarantee, do it. If you cannot, talk to a lawyer about protecting your assets in the event of a default.
What financial software do you use? You need a financial software program to keep track of income and expenses. There are many available, some specifically designed for construction. You want to be able to quickly enter financial data and print reports to provide a current snapshot of the financial condition of your business. The software should allow you to develop a chart of accounts–a list of income, expense, asset and liability categories specific to your business.
Do You Operate on a Budget? On an annual basis, you should meet with your financial advisors to review prior-year operations and establish a budget for the coming year. Although you won’t know your exact income and expenses, you can make a reasonable estimate. Does this mean you should review your financials once a year? No. You must review your financial situation at least monthly. Otherwise, how do you know if you are within your budget or meeting your income goals?
Remember, you can be the best contractor around, but if you don’t control your finances, you are setting yourself up for failure.