Following on from our overview of how to turn your hobby into a business, let’s at the fifth step in more depth: Do you know your numbers?
And no! Your 16-digit credit card number is NOT the number that you need to know backwards. You need to know numbers coming in and going out, and how to read a profit and loss and a cash flow (these are different!).
You may think you are doing ok, as you are generating volume which keeps the cash levels up, but what is the bottom line profit?
- It’s really simple. Money comes in. Money goes out. What is left over is your profit. Like with most things in life, most things cost’s money. (Even if there is not a hard $ cost, there is the cost of your time to do it). There are fixed costs, and direct or variable costs. Overhead costs are usually fixed (and incurred regardless of if you make a single sale or not – think rent, insurance etc). Direct costs are usually related to the cost of what you are selling – if there isn’t a sale, there isn’t a cost. For example – the raw materials you use to make your jewellery or the flowers that go into the bouquet you deliver, or the fabric used in the clothes you make and sell. This cost generally varies according to the volumes sold.
- Your profit is simply the sales price minus the direct cost to you, which gives you your gross profit. From gross profit, you subtract all your overheads to give you net profit. You will have to pay taxes too. Net profit however does not equal to taxable income. You will need to adjust your net profit for those items that are not deductible for tax, and you may be able to claim additional or accelerated allowances for tax purposes.
- And don’t forget about the balance sheet and cash flow statement either. The balance sheet shows your financial position (assets and liabilities, and equity too) at a point in time. The cash flow statement is a report that summarises how much cash is going in and out of your business during a specific period of time. The statement is determined by analysing operations, financing activities and investing activities to calculate your current cash on hand and predict future amounts.
Some points to consider when thinking about the numbers:
- Have you costed your product and service? I read a Facebook post the other day where a lady was selling handmade dog leads (think loom band style but with stronger material) for $35. The cost of the materials was $25 and it took her 8 hours to make one. Seriously! She is working for $1.25 an hour. And that does not even take into account her running costs or selling costs. Doing it for the love of it is one thing, but this won’t pay the rent.
- Know your business’s “blind spots” – every business has an Achilles heel that could be its downfall. Think of a restaurant – food cost and inventory management is critical (order too much, and you need to throw away excess food that has gone off, pushing costs high).
Do you know what the key performance indicator’s are that are critical for your business’s success?
- Measure everything – and keep stress testing it (think – what if the my supplier increases prices, what if postage increases, what if foreign exchange rates change). If a product or service is costing you money, or making you $1.25 an hour, get rid of it. You really are only in a position to manage what you measure, so make sure you measure.
- Likewise, know your drivers – what can increase your profit exponentially with a small tweak in your costings or pricing.
Can you bundle items together for value to customers?
- Scalability – Can you package what you do and get it out to a larger audience, think ebook, online course, workshops, events etc. Same time investment to develop or to present but it is not one on one, so revenue increases through volume. The ultimate goal of a start-up is to be successful, profitable, scalable and saleable. For products – you may want to consider wholesaling or distributors to sell your products.
- Drive cash flow – ask for deposits and progress payments. If possible, never deliver a product or service before full payment is received – so you are not chasing debtors. Otherwise, have signed contractual payment arrangements in place (7 days/30 days etc). The average is 55 days for a small business to get paid in Australia – can your business manage that long?
- Always find new ways to keep costs low. Collaborate. If possible, swap for products or services with someone who’s services you need. Negotiate favourable terms or an early settlement discount.
- What is your cost of customer acquisition, which includes your direct marketing costs, as well as the hidden costs of freebies, mates’ rates and non-chargeable time? How long does it take for the business to recover that cost and start to see a profit from that customer, then you can consider how many customers you can afford to acquire.
So, do you have an accounting system to keep track of your accounts?
- Excel to start off with is fine, but I guarantee you what you spend on a cloud based accounting software (like XERO, MYOB, QuickBooks etc) monthly subscription will save you ten-fold in your financial administration time.
- Invest in a package, and invest in a good bookkeeper or accountant to set it up correctly foryou from the get go – even if you then take over the financial administration yourself until your business expands to needing a bookkeeper consistently.
- You’d be amazed at how much time cloud accounting can save you in the long run (and that includes the hassle avoided come EOFY as you rest assured knowing your books have remained ATO compliant along the way!).
- Imagine not having to carry all your vital business information in your head, but still having access to it at the click of a button, even when you’re out of the office! That’s access to real time information on who has paid (and who might need a gentle kick up the butt), invoicing or quoting on the go, checking stock levels as well as all your key performance indicators, and budgets and forecast – anytime, any place, 24-7.
- And of course – can you put a price on YOUR time. Freeing up your time from financial administration allows you to focus on the things that matter most to you. Choose to use it to grow your business, spend more time with or acquiring customers, or working on new products – all of which are likely to grow your future revenues. Or simply giving you work life balance, that we all strive for. Having all your information available anywhere, anytime allows you that freedom. For small business, information is power.
- Lastly, it is not enough to see your accountant once a year. The cloud based accounting packages can measure your performance daily, benchmark to similar industries and track important expenses and accounts for you.
- If numbers scare the bejeezers out of you, make sure you surround yourself with great numbers people, who can analytically look at your numbers, share and mentor you in how these numbers work and make sure you are getting the most profit for all your hard work.
Business owners who know their numbers have a massive advantage over those who do not. The numbers tell a story – understanding the story behind your numbers can be one of the most important ingredients for long-term success.