Chapter 10

Financial Management
 Financial Management
• Financial Management is the process of managing the financial
resources, including accounting and financial reporting, budgeting,
collecting accounts receivable, risk management, and insurance for
a business.

• The financial management system for a small business includes

both how you are financing it as well as how you manage the money
in the business.
 Financial Management System
In setting up a financial management system your first
decision is whether you will manage your financial records
yourself or whether you will have someone else do it for you.
There are a number of alternative ways you can handle this.

You can manage everything yourself; hire an employee who

manages it for you; keep your records inhouse, but have an
accountant prepare specialized reporting such as tax returns;
or have an external bookkeeping service that manages
financial transactions and an accountant that handles formal
reporting functions. Some accounting firms also handle
bookkeeping functions. Software packages are also available
for handling bookkeeping and accounting
 Accounting System

• Bookkeeping refers to the daily operation of an accounting system,

recording routine transactions within the appropriate accounts.
• An accounting system defines the process of identifying, measuring,
recording and communicating financial information about the
business.
• So, in a sense, the bookkeeping function is a subset of the
accounting system. A bookkeeper compiles the information that
goes into the system.
• An accountant takes the data and analyzes it in ways that give you
useful information about your business. They can advise you on the
systems needed for your particular business and prepare accurate
reports certified by their credentials. While software packages are
readily available to meet almost any accounting need, having an
accountant at least review your records can lend credibility to your
business, especially when dealing with lending institutions and
government agencies.
• Setting up an accounting system, collecting bills, paying
employees, suppliers, and taxes correctly and on time are all part
of running a small business. And, unless accounting is your small
business, it is often the bane of the small business owner. Setting
up a system that does what you need with the minimum of
maintenance can make running a small business not only more
pleasant, but it can save you from problems down the road.
 Recordkeeping Systems

• Recordkeeping systems are frequently one of the biggest

challenges in a small business. Perhaps the problem is that the
creative side of running a small business is often at odds with the
"bean counting" side. Taking time to organize a good system can be
tedious and time consuming, but it only takes one visit by a tax
auditor or a turndown for a loan by a bank to convince any business
owner that an organized system would be useful.

• Why are recordkeeping systems so important? Because they

provide you the basis for all the reports you need to make to
governmental agencies, banks, and potential funders, plus they
provide you with an overall picture of how your business is doing
and where it is headed. Financial statements are a way to track your
progress towards your goals and provide you with the information
needed to make decisions as you go along.
 Recordkeeping Systems

The basic financial systems for your business should include information
from the following functional areas:

• Banking Relationships -- Checking/Credit

• Bill Payment -- Payroll, Taxes, Suppliers, Rent
• Money Collection -- Cash, Credit, Payment Terms, Collections
• Purchases -- Suppliers
• Sales -- Pricing, Marketing, Advertising
• Information Gathering and Reporting -- Cash Flow, Balance Sheet, Net
Worth
• Other Professional Relationships -- Accountant, Bookkeeper,
Suppliers
 Recordkeeping Systems

Some of the operational expenses which will be handled by

recordkeeping software are:

• Down Payments on Property, Rent, Equipment

• Equipment
• Legal/Accounting Services
• Licenses/Permits
• Loan payments
• Marketing
• Office Space
• Professional Fees
• Remodelling/Installation of Equipment
• Salaries, including one for yourself
• Supplies
• Utilities
 Accounting Software
•Accounting software is one of the more useful purchases you can make
as a business owner, given that you choose the right system for your
level of computer expertise and accounting knowledge.

•Your first step is to make a list of everything you need your accounting
system to do. If you are a service business, do you need a time reporting
and billing system? In a retail businesses you will most likely want to
track inventory. Do you also need the inventory system to be updated at
the point of sale? Construction and manufacturing companies may need
job or project costing systems. Do you expect to have a large number of
assets? If so, you may want an accounting system that includes a fixed
asset package.
 Major Accounting Software
There are essentially five major accounting software producers each
of which offer a variety of packages depending upon the needs of
your business:

• Intuit produces QuickBooks . Quickbooks handles employee

payroll and other more complex financial reporting.

•Best Software produces Peachtree Accounting. Peachtree is an

entry-level accounting solution for small businesses transitioning
from a manual or personal finance-based system. It includes
invoicing, bill paying, inventory tracking, payroll, order entry and
over 100 customizable reports.

•ACCPAC produces Simply Accounting. It is an easy-to-use,

complete accounting solution for small businesses that helps you
get set up and running in minutes using wizards, has over 100
industry-specific templates to choose from, handle payroll in-house,
prepares invoices, writes checks, tracks projects, and manages
inventory.
 Major Accounting Software

• MYOB produces MYOB Plus and MYOB Accountedge. Both packages

have accounting and business management tools including the ability
to email financial and management reports, invoices, quotes, and
orders, send reports to Microsoft Excel and create ready-made letters,
track your profit and loss and other financials, and accept and process
customer credit cards; offer direct deposit. The difference is that
MYOB Plus is for Windows only, while MYOB Accountedge is for Mac
operating systems.

• Microsoft produces Money and Money Small Business. Money is for

individuals who are operating with no employees. The small business
version includes payroll and other employee-related accounting
systems.
 Accounting Systems

• Your accounting system should provide an accurate picture of your

business and how it is doing. Setting up a good accounting system and
understanding the numbers produced can make a major difference in
how your business fares in the long run. The financial statements
produced from your accounting system will help you with:

• Pricing Your Product Accurately

Pricing your product is the first single most important thing you have to
do in business. It's a simple equation, which says that you have to
charge more than it costs you.
 Accounting Systems
• Know If You Are Making Money
Are you making money? Well, even after you price your product, you have
to know how your pricing compares with reality.

• Know Your Short Term and Long Term Cash Flow

• Work With Bankers
• Taxes
 Budgeting Systems

• Budgeting is detailed planning for the allocation of funds in a business. It

is sometimes referred to as the financial picture of the business; i.e, how
the business plans to spend its financial resources.

• Whether your business plan is for next year, for the next three years, or for
the next five years, budgeting can help you keep on the right road. Once
you've developed your business plan, preparing the first budget is easy --
think of your budget as the financial picture of your future.

• Because operating a small business is not a cut-and-dried affair, the first

budget you prepare often uncovers problems with your business plan and
helps you determine whether or not your financial goals are within reach.
The budget will also help you focus and select from alternatives to help
make your business plan realistic and achievable.
 Budgeting Systems

• Your budget can also be used to assess whether your present profit
adequate. In a small business, the year end profit should be large
enough to make a return on your investment and return on your own
work, i.e., pay you a salary.

• Value of Owner's Service

This is the net profit made in the business after taxes. Hopefully, it is a
positive number, although for some start-up businesses that may take
a year or two to achieve. Some people compare this number to the
amount you could have earned if you worked at your trade for a pay
check. That, of course, does not take into consideration the intrinsic
rewards of working for yourself.
 Budgeting Systems

• Return on Investment (ROI)

The year end profit is too low if it does not also include a return on
the owner's investment. That investment includes the money you
put into the firm when you started it and the profit of prior years that
you left in the firm. You calculate Return on Investment by dividing
the fiscal year's income by the amount of investment in the
company. Investment also includes any long term debt you have
taken on to support running the business.
• Your Targeted Income
After you know what you made last year, you can set a profit goal for
next year. Be sure that your goal includes payment for your services
and a return on your investment as noted above.
 Budgeting Systems

Summary of the Budget Process

• Review last year's budget to see how well the business performed. Make a
list of what changes may be needed in operations or the budgeting process
based on differences between actual and projected amounts in each
category.
• Calculate your return on investment (ROI) for the previous year. Determine a
realistic ROI goal for the coming year.
• Estimate changes in expenses for the coming year.
• Calculate the revenues needed to meet the ROI goals and anticipated
expenses.
• Evaluate how realistic the revenue goals are.
• Readjust expense and ROI projections so that revenue goals are achievable.
• Monitor budget income and expense categories monthly, comparing actual
to budgeted figures so that you can address any major aberrations
immediately.