Having a successful small business is the dream of many entrepreneurs. But without proper financial management, those dreams can become a nightmare.
Poor financial practices are a significant cause of business failure. Even businesses that don’t fail may suffer from financial problems, so small businesses should be aware of these poor financial practices and take steps to avoid them.
1. No proper division of duties
The first bad habit is not having a proper division of duties and responsibilities.
Take a cashier and an accountant, as an example. Many business owners think accounting is about money management. So everything related to money should be the responsibility of the accountant. But there is a difference between a cashier and an accountant: the former handles money, while the latter prepares accounts and keeps the books. Without segregating these duties, a company might struggle to accurately track whether their expense and revenue counts are complete and accurate.
Division of responsibilities is a way to manage risk. It helps small businesses prevent fraud and reduce the chance of mistakes.
The degree of division of labor a company should create does depend on cost-effectiveness. There is a golden rule in risk management: It’s not worth doing if the cost of implementing control is greater than the risk.
Small businesses can hire a cashier and an accountant to segregate the duties, but it would be too much control to add one more staff member to monitor their activities to avoid conspiracy. There are other ways to strengthen monitoring, such as irregular cash counts.
2. Lack of financial budget and planning
A bad habit of small businesses is lacking a financial budget and a plan for the future.
A financial plan is an essential practice. Business owners should create one to ensure their ability to allocate resources and manage expenditures.
But small business owners often underestimate budgeting. It’s a means of control that helps businesses to operate in a planned manner, understand how the money is spent, and achieve expected goals.
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3. No proper bookkeeping
Poor bookkeeping involves failing to record business transactions accurately and completely.
Sometimes, small businesses fail to document invoices and receipts for transactions. It results in insufficient evidence to support the authenticity of transactions. It’s even worse for cash transactions because there’s no track record in the bank statements. That makes it even harder to prove whether the transactions are true.
Another problem with improper bookkeeping is the easy duplication of expenses. It’s difficult to determine if certain expenses have already been recorded or not. So, improper bookkeeping could result in double-counting the same expense. It will inflate the total cost of running a business.
Poor bookkeeping enhances the difficulty to prepare accurate financial statements and manage finances. It’s hard to accurately estimate tax payments. Also, business owners cannot make well-informed decisions about the future of the business.
Furthermore, poor bookkeeping can result in fines or penalties if the government discovers discrepancies between reported income and expenses.
Small businesses need to ensure they have good bookkeeping practices to manage their finances and stay compliant with regulations.
4. Mixing business and personal affairs
It can be a huge mistake to mix business and personal finances. The financial statements become difficult to track. Business owners will have difficulties understanding the health of a business.
Moreover, when business and personal finances are combined, it’s hard to get a clear picture of what exactly is going on in your business. Keeping your finances separate will allow you to get an accurate overview of how much money you are making or losing with your venture.
5. Lack of regular cash flow monitoring
Poor cash flow management is a common practice in small businesses. Not keeping up with the day-to-day operations can lead to cash flow issues. It can lead to decreased profits, delayed payments, and difficulty running a business. The worst case is that small businesses may have going concern problems if they cannot meet their short-term obligations. It can lead to bankruptcy or other legal action, which could result in the business’s closure.
Furthermore, cash flow problems can create a domino effect with creditors and customers. It results in further delays and financial losses.
Financial analysis is essential to understand the cash flow of any organization, but many small businesses lack the resources or knowledge to manage it.
By monitoring cash flow daily, small business owners can understand their financial situation and better plan for the future.
Small businesses should take great caution to avoid falling into poor financial practices. Poor budgeting, lack of business planning, and not accounting for risks can all lead to financial instability.
It’s important to remember that being financially responsible will benefit the business in the long run and lead to greater profitability and sustainability.
Regularly consulting with an accountant can provide valuable advice on how to best manage finances. It helps small businesses to stay ahead of potential issues before they arise.