Making money is likely the reason you got into business for yourself in the first place, or at least one of the many. The ability to earn your own income doing something you love is the American dream but getting the dollars to roll in consistently and dependably is another story altogether.
Most business owners will need to turn to financing at some point, especially in the early years. It could be short-term debt financing to purchase new equipment or longer term, such as to purchase a building. Alternatively, a business owner may opt to secure private equity financing, accepting funds and occasionally receiving some guidance or mentorship in exchange for giving the private investor a stake in the company, such as in angel investing and venture capital.
In any case, financing is what helps a company scale its operations to the point where it can be successful – but it can also be your biggest downfall. The financing has to be for something that actually generates value. Paying three times as much for linen napkins as cotton ones won’t make your restaurant any more successful. Moreover, you as the business owner have to find a balance between getting the funding you need without weakening the company’s financial position or giving up too much ownership or control. At the same time, even if the venture for which you are securing financing is wildly successful, you will still have to cover the note until that happens.
Depending on the ambitiousness of your plans, it could be months if not years until a large venture begins to prove its worthiness – and all the while you still have to cover overhead. Moreover, if you weaken your position too much, you won’t be able to secure additional financing for your company if some unexpected event occurs, be it a shipment didn’t make it on time and you need to make amends or your shop floods in the middle of winter and you need to make significant repairs before you can reopen.
With all those types of concerns, it can be easy to focus more towards maximizing profits and keeping cash flow as high as possible. Over the short term, this can be a good idea. Focusing on delivering a core product or service while avoiding any reinvestments or expansion can create a very cost-efficient environment and may even help you to streamline your offering – but any profit maximization strategy is risky.
You could lose everything if the market takes a sudden turn. For instance, let’s say that you sell Nintendo Wiis and they are your most popular system so you begin to focus the bulk of your inventory on Wii games and equipment. Then, Microsoft launches Xbox One and Sony launches Playstation 4. All of a sudden, your customers want systems and games you simply don’t carry and you need to move your existing inventory or take a massive hit. This may be an extreme example, but it highlights how easy it is to narrow your focus on your most profitable offerings and miss an opportunity.
Similarly, if you keep focused on profit maximization, you could miss opportunities for making reinvestments that could save you or make you money in the end. For example, if you refuse to put money back into your company you may miss the opportunity to pay a little to install a new software or purchase a small piece of equipment that would make your operations more efficient or miss advertising in an event that would bring in hundreds of new clients.
In other words, you have to ensure that there is enough cash available to run your daily operations and be profitable but you also have to save enough leftover to reinvest in the company – and that your mindset is open to seeing opportunities for reinvestment.
Managing cash flow is one of the most difficult tasks of running a business. It requires a fine balance between making sure there is enough in the bank to cover daily operations while being able to afford to make reinvestments. You have to also make sure the debt or other financing you take on generates value for your company and doesn’t weaken your company’s financial position to the point that you could not take on more financing if necessary – be it to cover an emergency or harness an opportunity.