Financial Management for Small Business Owners

Financial Management for Small Business Owners


First of all let us understand the meaning of Financial Management. Financial Management means effective and efficient usage of funds. By effective usage we mean the optimum deployment of funds raised and efficient usage means raising the funds to be deployed at less cost.

For a small business to be optimum at its financial management, it needs to adhere to the following points:

  • Have a rational business idea.
  • Arrange the proper men and material for the business.
  • Monitor business continuously.
  • Raise more funds efficiently if the business has begun its growth journey.
  • Follow legal compliance and good practices always.

So, we can say that financial management starts right from the point of planning for a business till following all the necessary points for the business to be sustainable and growing in the long run.

Let’s start our discussion of the above five points mentioned above with:

1) Have a rational business idea

The entrepreneur should think of what business he can do given his skills and abilities and scarce small capital. Also, his business idea should have enough demand in the economic system so that the business income outweighs the costs. Cost- Benefit analysis is required here.

2) Arrange the proper Human Resources and Physical Resources for the business

The proper human resources and the physical resources i.e. raw material and plant & machinery etc. are required for running a business. The people hired in the organization should have the necessary skills and abilities, qualifications and work integrity in order to be a part of the business. For example, a small potato chips trading business would hire drivers and sales agents to maintain contacts with the retailers and wholesalers, respectively.

The material required by the small business should be of good quality and the plant & machinery should be capable of generating economies to scale. In our example, the material would be good quality potato chips purchased from the manufacturer and commercial vehicles purchased for delivery having good mileage.

It’s very important to be efficient while raising the human and physical resources required for the small business.

3) Monitor your business continuously

Once the small business has all its resources and their respective functions in place and is up and running, proper monitoring of the business becomes essential.

This monitoring can be ensured by having a look at the financials of the business. This can be done by having a proper understanding of the Cash Flow statement, Trading & P & L A/c, Balance Sheet and Income Statement by the entrepreneur. For this, the entrepreneur must hire a Professional Accountant. Hence, a Professional Accountant would also be hired by the Small Chips Trading Company in our example for making all of the above financial tools mentioned. A proper look and understanding of these tools would enable the entrepreneur to determine answers to crucial questions like:

  • Are debtors on a very high level or not?
  • Are sales near to the level estimated to cover the costs or not?
  • Is the average creditors payment period and average debtors collection period on the required footing i.e. as desired by the entrepreneur?
  • Is there enough liquidity and profitability and hence a balance between the two or not?
  • Are operating and non-operating expenses on a higher side?
  • Is EBITDA margin and top line on a linear path?
  • Is bottom line growing?
  • Is financial leverage on a higher note?
  • Is the business cash flow positive or negative on account of its operational, investing and financing activities?
  • Is there a question mark on the solvency front both in short as well as in the longer run etc?

When the financial statements mentioned above have been made for a considerable time period let’s say five years, these can also be used for making Financial Projections and Estimates of the smaller business for the future taking into account the future business environment. The financial projections serve as a financial management tool as Planning and Controlling functions of management can be discharged on the basis of them.

Also, proper supervision over the day to day operations of the smaller business is required. This can be ensured by undertaking surprise entrepreneurial visits and hidden cameras etc.

4) Raise more funds efficiently if the business has begun its growth journey

If the smaller business has begun its trajectory to become a medium scale one, then it should look for bank/debt financing and its retained earnings i.e. funds generated via strong financial operations as possible finance sources for growth and expansion purposes. It should fund its growth, first through retained earnings part and remaining portion if any, through debt financing. In this case, the cost of capital charged by banks for other similar businesses must be investigated into by the small business entrepreneur in order to maintain efficiency in financing activity. Over-leveraging must be avoided here. It can later tap stock market when it reaches a medium scale backed by strong business goodwill established over a period of time, via equity financing.

5) Follow the concept of Corporate Social Responsibility

Timely payment of the tax dues and other legal duties is mandatory for a sustainable functioning of the smaller business. Also, rewarding the employees for their hard efforts by giving them salary hikes and bonuses etc. form an essential part of a long running successful business. Keeping the employees i.e. the internal customers of the business happy and in a good morale is equally important for a smaller business as providing quality products or services to the target market (External Customer).

The Final Takeaway

Prudent Financial Management of a smaller business comprises of having a good justifiable business idea, arranging the necessary resources for the business at less cost, a continuous monitoring of business, raising more funds if required for growth & expansion purposes in an efficient manner and adhering to Corporate Social Responsibility (CSR) concept.