Editor’s Note: I’m pleased to welcome Jessica Kane to The Heavy Purse. If you’re interested in guest posting, please review our guidelines. Take it away, Jessica …
Inc. magazine reports that one in every five start-up businesses will fail within the first five years of operation. Ouch! The culprit, the editorial states, is “passion.” While passion – defined as zeal and dedication to a good idea – is a necessary component of any successful business, it can also be the biggest downfall. Passion is not considered a “financial trap,” per se, but it can mask the presence of financial traps that no amount of passion, zeal or dedication can overcome. In this article, learn about five all too common financial traps you must avoid as a business today.
Trap #1: Living on Credit
Just as personal credit card debt can spiral out of control before you know it, so too can using credit cards to fund and fuel your business end up backfiring on you. For example, opening too many lines of credit too quickly. Anytime you open a new line of credit (bank account, credit card, mortgage, etc.) that impacts your overall credit worthiness. If you want to seek more lines of credit, creditors will want to know how much of your net worth is already tied up in credit-related debt. Not surprisingly, the more debt you have, the less favorable future credit terms are likely to be and the more reluctant creditors will be to extend you additional lines of credit. Amass too much debt too quickly and your business will crumble in on itself….leaving you with a mountain of unresolved debt to untangle.
Also, let’s say you have already opened several lines of credit, but then a major order comes rolling in. You need more credit to order the supplies to fulfill the order, which may then lead to more and larger orders in the future. But you have too much credit to qualify for a larger materials loan, and so your business stays stuck in the minor leagues when it could have qualified for the majors!
Action Step: To guard against this trap, manage your credit/debt ratio carefully!
Trap #2: Not Completing Tax Forms Properly and On Time.
Failure to complete your taxes can have huge implications on your business now and in the future. Not only can you look forward to stiff fines and penalties for failing to file your taxes fully or at all, but you may find yourself embroiled in tax audits for years to come that take you away from the daily management and operations functions your business requires.
For this exact reason, bookkeeping and tax preparation is the one function that even brand new start-up companies with no extra cash may decide to outsource to a tax professional. Not doing so can be costly in money and time and handicap your business for years to come.
Action Step: To guard against this trap, use any extra or unallocated funds to hire a tax professional!
Trap #3: Launching a Business Without a Budget.
There is a reason aspiring business founders are encouraged to take a small business course to learn about business basics. One of the most foundational basics of launching a new business is setting up your budget. Here, you look at what you plan to make (your profits) versus what you plan to spend (your expenses). Your budget is your best estimate for both over 12 months and up to 60 months time.
Then, each month, you will “balance” or reconcile your budget to your actual profits and expenses. This will show you early on if you have any trouble brewing with cash flow or if you have extra money to spend or invest. If you don’t have a budget to ground you financially, your risk of overspending and going out of business becomes much greater.
Action Step: To guard against this trap, create a budget and reconcile it monthly!
Trap #4: Investing Haphazardly for Quick Returns.
Once you have a little money in the bank, it can be oh-so-tempting to “play the market” to try to make a little money into a lot of money. What many business owners forget is that investing can go both ways – you can make a profit, or you can lose every cent. So when you have a little to invest, you must tread carefully to avoid inadvertently bankrupting your own company.
The best way to proceed instead is to invest either in very stable long-term investments (like mutual funds) or to invest in highly liquid short-term investments (like money market funds or short-term bonds).
Action Step: To guard against this trap, invest with care!
Trap #5: Failing to Invest In Your Company and Its People.
If you are a services-based company, you already know that your employees ARE your profits. But if you are a products-based company it is easier to forget this and sidestep the importance of investing profits back into your company and its people.
Studies show employee productivity increases with better working conditions and more benefits (including but not limited to wages). In the same way, poor conditions at work can lead to lower productivity, less loyalty (which means continually needing to hire and train new workers at cost to you), more employee sick days and poor morale. In either case, your customers will definitely feel the impact.
Action Step: To avoid this trap, take some of the profits and reinvest them into improving office atmosphere, employee perks, awards and incentives and other refinements that can lead to better performance and happier customers.
When you keep your debt ratio reasonable and manageable, file your taxes on time and properly, make and balance a budget monthly, invest what you have wisely and re-invest part of what your company earns back into the company and its people, you will already be way ahead of 80 percent of businesses today!
Jessica Kane is a professional blogger who focuses on personal finance and other money matters. She currently writes for Checkworks.com, a leading supplier of personal and business checks.