3 Rules to Manage Your Business Finances

What’s up, all you beautiful people? Okay, so today we’re gonna get kind of nitty gritty into the weeds of building your business and how to manage specifically the financial aspects of your business. Because this is one of the things I really struggled with in the beginning, is I didn’t know what I didn’t know around bank accounts, like how much money I needed to keep in reserves. I didn’t know how to pay bills, or when to invoice or how to follow. I didn’t know anything and just kind of made it up as I went. I would read books, but a lot of times the books weren’t really designed for super small entrepreneurs. And I couldn’t figure, figure out how to apply it to my context as they’re talking about p and ls and balance sheets. And I’m like, I don’t have any assets to work with here. It’s really just me going out and trying to churn up some business.

So that all seemed like overkill. And it can be very easy to get too deep into the weeds of the finance side until you get to about three to $5 million a year in top line revenue. I wouldn’t recommend that you go and become a master of the financial management side. There’s just a couple principles I want to share with you in this video, three in particular, that will help you reframe or think about your financial situation for your business. So, number one is how much money should you keep in reserve, or what we call working capital? Working capital is how much money you have on an ongoing basis to pay your bills and whatnot, right. Or to go and apply towards inventory. The problem in business that you run into, especially in the beginning, is that it’s very lumpy, and it’s very nice to graph out all my growth. My income is going to grow consistently month over month over month, and this is how much I’m going to make next month.

But the reality is you might make $10,000 of sales this month, you might only make 3000 next month. But of the 10,000 you made this month, you might not actually collect it until two months later. And so it’s all very hard and lumpy and hard and difficult to forecast and say with any consistency just because you’re so small. There’s a lot of volatility in the system now, as you grow and you’re doing 200, 300, $400,000 a month, then it’s much easier to start to level that out because, you know, a 10% difference is not going to make or break your financial projections in any kind of meaningful way, whereas when you’re very small, you’re like, oh, I might not make any sales this month, I might not have any growth, or I might not get collected on any of these bills. Right. So how much should you keep in reserves is the question. So, in the personal finance world, people say you need to have six to twelve months of emergency funds, and that is a good number for me. I like to be more on the twelve month side, just so I know if anything ever happens in my life, I have a full year to figure it out before I have to start getting worried about money.

That’s my goal. I like to have that in an account on the side that I can just get to whenever I want to. In our businesses, it depends on what the lifecycle is of your revenue. If you’re able to sell and collect really quickly upfront, then you don’t need to keep as much money in reserves. And if you don’t have very much overhead expense in terms of office space and a lot of payroll, which in the beginning, I recommend you try to keep that stuff as small, lean as you can. But if you have a fast life cycle on the sales process and the collections process, you can get by with two months of working capital or of operating reserves. And what I would calculate that based off is what is your monthly burn rate? How much are you spending every month on overhead, on payroll, on inventory ads? Like what those things? What is that expense number? And then keep two months of that set aside and you should have enough then to weather intermittent storms. If you can get to six months, that’s great.

But you want to get to the point where you’re not having too much money sitting on the sidelines, because that is money that is not being maximized to its fullest utility and better than having a year’s worth of money just sitting on the side. You have to figure out, okay, where would it be best spent? What’s the highest and best use of this money? And that’s usually reinvesting back into infrastructure, into the team, into software, all that stuff. And so you don’t want to have too much money sitting on the sidelines. And I see a lot of entrepreneurs talking themselves into this as well, where they’ll take that money and they’ll invest it into something else, like bonds, where they’re getting five or 6% or maybe in the stock market, and they’re thinking, oh, I’m making my money work for me. I’m getting yield on it. When if you were to do an apples to apples comparison where if you were to take that money and invest it back into your business, into growing the team and expanding the marketing functions, all that stuff, then you would have a much larger ROI from growing the business than you would by just investing that money. Anyways, let me digress. Okay, so two months working capital for most businesses is the bare minimum that you want to have.

If you can get to three to four months, that’s even better. But above and beyond that, assuming that you have a consistent process in place for getting customers in, you don’t need to have more than that typically. Next, let’s talk about accounts receivables. Accounts receivables are you make the sale, but that’s not necessarily the day you collect money, right? Depending on the product or service that you have, a lot of times when you’re working with businesses or you’re delivering some kind of service, it’s get you signed up today and maybe we take a deposit, but I might not collect on the full cash amount of that, that product that I sold you, maybe until 30 days, 45 days, 60 days later. And this is what’s referred to as net 30, net 45, net 60. And in business world, net 45 is pretty typical. Net 30 is also very common. Now, when it comes to receivables, your goal as the entrepreneur is to offer the shortest receivable period of time possible.

Your buyer is going to want the longest timeframe possible, so they might want 90 days to pay you back. Whereas you, if you can get them to pay in 30 days and you have just decreased your cycle time by a third or by two thirds, rather. So like that is much better because you want, you want to have that consistent cash flow coming in. And one of the most powerful ways that you can do that is it can increase or decrease the time between when you make the payment or when you make the sale and when you actually collect payment. So there’s this push in this poll between them wanting more and you wanting less. And it’s the same with, say, your credit card. Your credit card offers you net 30 terms, right? You make your purchase today, you don’t actually have to pay that bill for another 30 days. It doesn’t go on the statement and start accruing for another 30 days.

So you already have experience with this. Now you just need to apply it within the business context. So whenever we’re talking to our customers, we want to say we want to offer the shortest periods of time possible. In a perfect world, we’re getting paid in full right upfront before we do anything. That’s the ideal. We’ll talk about different strategies for pitching that in other episodes of this podcast. But that’s where you’re trying to get to. Now, the third side of this is your account receivables.

I’m sorry, account payables. So the opposite. So account receivables is when people owe you money. Account payables is when you owe other people money, right? So you have your software, your overhead of the building, you have your vendors that you need to pay, right. And in those situations, the conversation reverses. So instead of getting the shortest timeframe possible, you want the longest timeframes possible. So you want to get the net 90 terms if they’ll give that to you, because that gives you three full months to get the results of that product as a service, to justify the expense and start getting an ROI on it. And it keeps more money in your bank account for longer.

And that’s really the goal of these last two things, of the receivables and payables. We want to keep as much money in our bank account for as long as possible. Now, when it comes to payables, let’s say somebody gives you net 30 terms. I just had this come up today. I had a vendor, he gave me net 30 terms on something and he wanted a bank transfer or a check. And I said, hey, is it cool if we set up some kind of online bill pay? We want to use our credit card for this. Because if they’re offering me net 30 and I use a credit card, then I have effectively given myself net 60 terms. So I can wait until the 30th day of the month to pay their bill with my credit card.

And now I have another 30 days before I need to pay my credit card back. And that is how you lengthen the life cycle between when you buy things and when you have to pay for the thing. The more you can do that, the more you can keep money in the bank in the short term. And that keeps your operating reserves nice and healthy. That is the ultimate goal. And if you can become a master of pushing and pulling these different levers, you decrease how long it takes you to get paid and you increase how long you have to pay. Then you’re going to be doing pretty well. So those are three ideas I just want you to be thinking about that will serve you at all levels of this game.

And sometimes it’s just as simple as asking if that’s on the receivable side. Hey, would you be able to make the payment today? Could we do net seven? Could we do this in seven days or one week? Could we do net 30? No. Okay, net 45. Does that work? Okay, cool, right? You don’t start at net 90. You try low and you see where you can get them. And now on the other side, you ask for the moon. Hey, would we be able to get net 90 terms? Like, oh, we can’t really do that. It would really help us a lot, maybe.

Okay, we could settle for net 60 and like, well, we could do net 45. You’re like, cool, we’ll do net 45, right? So keep those in mind as you’re having conversations with different vendors and suppliers. This will go a very long way towards managing the health, the financial health of your business. So hope this brings you a little bit of value. If it did, smash the like button, hit the subscribe button, push all the buttons, and I will see you tomorrow in the next episode. But until then, stay hyper focused, my friend.