The Importance of Financial Fluency

This story is all too familiar.

An energetic entrepreneur works and works to save money to start a business.  Their nest egg builds and the dream is coming closer to reality.  Friends and family contribute.  The equipment is purchased.  The employees are hired and the restaurant finally opens.

And six months later it closes.

How many times have you seen a small business open only to close its doors several months later.  The problem?  Not enough cash.  The deeper problem?  Limited financial fluency.

The key issue here is that entrepreneurs know and have a passion for what they do – but they usually don’t know finance and accounting.  Not only that, they often relegate the mundane aspects of running the business – including setting up the books, forecasting cash flow and managing operating cash – to the back burner while they get the fun parts of the business rolling.  As money comes and goes more quickly, they can’t keep track of it in their head or checkbook register and things often start to spin out of control.  They then scramble to understand – and it’s often too late.

In his book “The E-Myth” Michael Gerber notes that a very large percentage of businesses are out of business within their first year for these very reasons.  It makes sense then to learn the basics of accounting and finance – even if you are going to hire a professional to manage your books – BEFORE you start investing in your business.  In fact, a well-thought-out business plan with financial projections is an absolute must even if you don’t plan to borrow money from a bank.

Invest some time understanding basic financial terminology like revenue, expenses, assets, liabilities, depreciation and cash flow.  Learn to read and understand the basic financial statements – the income statement, balance sheet and cash flow statement.  Build a two year cash flow projection and model different business conditions to understand under what conditions you may run out of cash or have to borrow more cash.

One of Michael Gerber’s key points in “The E-Myth” is that taking care of the foundational aspects of understanding accounting and finance, building policies and procedures and other “mundane” tasks will leave you free to do the fun things like cook, paint and create AND will dramatically increase the probability your business will survive it’s first year.

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