As a small business owner, you’re likely aware of the numerous challenges that can threaten your company’s success. According to a study by Georgia McIntyre, nearly 30% of small businesses fail due to cash flow problems, and another 18% succumb to pricing and cost issues. This means that almost half of all small business failures can be attributed to financial issues that could be tracked and addressed using basic financial statements.
Let’s first tackle the topic of cost issues. In a previous article, we discussed Benjamin Graham, the renowned “father of value investing” and mentor to Warren Buffett. Graham’s core principle is deceptively simple: strive to pay wholesale prices instead of retail whenever possible. Despite the clear logic behind this approach, many businesses and individuals fail to adhere to it, leading to financial strain. As a small business owner, cultivating a habit of frugal buying can significantly improve your company’s financial health.
However, it’s essential to strike a balance between frugality and being overly cheap. Being excessively cheap can ultimately harm your business, as the quality of goods and services often aligns with their price. Instead, focus on strategic frugality – taking advantage of sales, discounts, and smart buying tactics to minimize your business expenses over time without compromising quality.
Now, let’s shift our focus to pricing strategies. Pricing is, in essence, the counterpart to cost, and it plays a crucial role in determining your business revenue. So, how should you approach pricing your goods or services? There are three common methods to consider:
- Market-based pricing: Evaluate your expected price in comparison to the average market price of similar goods and services offered by your competitors. Successful small business owners meticulously track competitor prices, enabling them to remain both competitive and profitable throughout their business cycles.
- Cost-plus pricing: Calculate the unit cost of each good or service, then add a margin to create a profit. This approach necessitates a thorough and ongoing understanding of your business costs, which can be achieved through a comprehensive income or profit-and-loss statement.
- Ad hoc pricing: In some cases, unique situations may call for tailored pricing strategies. For example, consider an interior designer who initially priced her services competitively but struggled to attract clients. By substantially increasing her prices and implementing a targeted marketing campaign, she successfully conveyed the premium nature of her services to her desired client base.
In practice, businesses often employ a combination of these methods. Regardless of your chosen approach, it’s vital to rigorously track your business’s revenue and costs using regular income statement analysis – a habit shared by all successful small business owners.
Cash flow management is another critical aspect of financial success. To ensure your business doesn’t run out of cash, it’s essential to monitor the inflow and outflow of funds closely. Proactive business owners develop contingency plans, such as establishing lines of credit with banks before they’re needed, negotiating trade credit agreements with suppliers in advance, and identifying potential alternative financing sources like government loans. The key is to track cash flow diligently using a cash flow statement and secure financing options early, recording them on the right-hand side of your balance sheet.
It’s no surprise that nearly half of small business failures can be attributed to financial issues. While financial statement expertise alone won’t guarantee your business’s success, it significantly enhances your company’s chances of long-term survival and prosperity.
In another article, we explored the concept of open book management. Embracing open book management and employee ownership can empower your team members to better serve customers, make informed decisions within their roles, and contribute to your business’s growth. To implement this approach effectively, it’s crucial to maintain accurate, up-to-date, and easily understandable financial records.
By prioritizing smart cost management, strategic pricing, diligent cash flow tracking, and open book management, you’ll be well-equipped to navigate the financial challenges that small business owners face and set your company up for sustained success.
