If you didn’t keep to your New Year’s resolutions last year, you’re not alone. A national survey conducted by finder.com.au found that 58 per cent of Australians – an estimated 11 million people – broke their New Year’s resolutions in 2015. But the good thing about setting New Year’s resolutions is that we all get the opportunity to have a fresh start each year and try again.
The survey also detailed that 21 per cent of Australians failed because they made too many resolutions. Did you make any New Year’s resolutions for your business this time last year? Did you attain your financial goals and ready yourself for the new year? If not, incorporating a business goal into a resolution can be a great way to maintain good financial health.
1. Realise that your business is just a pot of money – your money
Fundamentally, every business is the same. They use capital to produce a profit.
In our 'pot' we usually put equity capital (money belonging to the owner and reinvested profits) and debt funding (obtained from the bank, leases, etc) – the inputs of the business. Out the bottom of the pot drops sales, less expenses, to leave a profit – or the outputs of the business.
The key is to maximise outputs and minimise inputs.
2. Decide what rate of return you want from your business
Think about how you have arrived at that rate. After all, you can get around 4 per cent in 10-year, risk-free government bonds.
On a broad portfolio of publicity-traded blue chip stocks, you should expect a long-term average of around 12 per cent.
Therefore, you should generally expect a higher rate of return on the capital invested in your business, which is not publicly traded (i.e. easily sold) and usually in one industry, not a broad portfolio of companies.
As a guide, we recommend you start with a minimum expected rate of return of 20 per cent, but this will vary depending on the riskiness of the business.
3. Get to know the financial drivers of your business
Is your business volume-driven? Is it margin-driven? Is working capital a key driver or are you in a capital-intensive industry with large investment in plant and equipment?
It’s no use selling more if it is at the expense of margin and you end up making less profit. Either way, you need to know what changes will give you more bang for your buck.
4. Many small changes can make a big difference
Some business owners think their panacea can be achieved by simply increasing prices or increasing sales.
Based on my experiences, small changes made to a handful of areas can have a multiplied effect on your return on capital employed.
Focus on the key driver for your business but also look at other areas, including working capital management, under-utilised assets and margins.
5. Understand what your free cash flow is
Finally, profit is opinion – cash is fact. You can still make a profit but have no (or negative) cash flow. This is because management decisions and accounting policies have an impact on how profit is reported.
Assumptions are also made regarding depreciation rates for plant and equipment, and these also impact on profit.
Many businesses are also growing, which means more and more cash is chewed up in more and more stock, debtors and plant. Many fast-growing businesses have gone broke through lack of cash flow.
Grant Field is the managing director of MGI South Queensland and executive chairman of MGI Australasia, a global alliance of independent accountants and business advisers.