Top 6 financial mistakes that will lead to your business collapsing

Top 6 financial mistakes that will lead to your business collapsing

One of the most common reasons for the failure of business in Russia are all kinds of financial mistakes.  Research shows that the result of these errors means that for every new start-up, two existing companies go out of business.  Indeed, whilst the statistics are telling, it’s possible to turn  the situation around if you know what you’re dealing with.

Since any problem is easier to prevent than to deal with its consequences, let's look at the most dangerous financial mistakes and ways to prevent them.

Mistake 1: Doing business without a plan

The lack of a well-thought-out financial business plan will invariably lead to the slow development of the company, and afterwards completely stunt progess altogether. As soon as the investment comes to a halt, and if the company's next move is unclear, then ultimately, the company will die.

Often, entrepreneurs draw up a plan for 1-3 months, but this is too short a period after which companies often remain in a situation where they cannot pay their employees' wages. However, with good long-term financial planning, the possibility of failure can be minimised to almost zero.

What should be done?

Consider the financial situation of the company and draw up a long-term plan for 6-12 months. Owners of large brands must ensure that funding will be enough to cover a year ahead even in the event of a crisis and other unforeseen circumstances.

It's necessary to control income and expenses, to conduct monthly analysis of the data received, and compare statistics. It's especially important to monitor the financing of small business owners, for whom even small amounts can be significant.

Mistake 2: Lack of error control

Often, small companies (especially at the start) see an active increase in financial indicators due to the so-called 'low base effect' - it is seen when significant dynamics are observed in comparison with initially low indicators.

As the company grows its operations and financial scope it becomes increasingly difficult to spot errors in a timely manner. Even at first glance, a completely profitable project can over time lead the business owner to large-scale losses. To detect financial as well as managerial mistakes, it helps dividing the cash flow into several channels in order to begin to see and know the real situation in the company.

What should be done?

From the moment the business is launched, take care to conduct a competent financial report (even if the turnover is initially small), and again after the initial setup of the functioning cycle. Make sure to compile cash flow statements (both any profits and losses).

Look for methods that will help minimise unnecessary costs, as well as ways to increase profits without compromising on the quality of the product or service. Only consider a business loan if your business model has been successfully launched and the income from the loan exceeds the possible risks. For example, if a company wants to increase stocks in warehouses before a seasonal increase in demand, you can take out a loan at 12% if the business model shows a profit above 12% (20-30%).

Mistake 3: Expenditure increases at the same level as income growth

Often, a company's expenses to increase rapidly as its income level increases. In general, this is normal, but if the growth rate of expenses is equal to the growth rate of income, the business model will be unstable.

The company must be prepared for any unforeseen expenses and always have a nest egg of a reserve funds that can save it in the event of a force majeure.

What should be done?

The level of income must exceed the level of expenses. For instance, a digital studio that earns thirty million should increase its income by 30% annually. The optimal level of spending must be no more than 15% per annum - this will help keep the business in a stable position and avoid the so-called 'slumps.'

Mistake 4: No reserve funds

The availability of a nest egg of reserve funds 'for a rainy day' is the right solution for those companies that want to maintain stability even during difficult periods.

Unfortunately, however, many entrepreneurs don't have a savings account for unforeseen expenses, and as a result the company can easily go bankrupt - or fail even with an insignificant loss of income.

To overcome the crisis, an entrepreneur without a backup account will likely have to take out a loan, downsize, make employees redundant, or be forced to borrow money from friends and family - all this will, of course, have a negative impact on the business.

What should be done?

Make sure you create a financial cushion to fall back upon. Be proactive and consider potential crisis scenarios and try to anticipate possible future difficulties and problems. Determine how much money can keep the business stable for 3-6 months after the crisis so that it can recover and get out of any force majeure without having to take out loans. Only use a reserve account if the company doesn't have other secure sources of funding to solve the problem.

Mistake 5: 'Wandering' in reports

Whilst tax and accounting reports are legal requirements of the state, these provide insufficient information to the business owner to be able to draw accurate conclusions about the real financial situation of their company.

Therefore, in order to be able to control the financial side of the business, it's imperative to closely manage all records of accounting because this will help to accurately assess the profitability of the business and make the right decisions in a timely manner. For this purpose, an entrepreneur will need at least three types of reports: on profits, on losses, and on the balance of funds.

What should be done?

Entrepreneurs are advised to take quality courses that will help to create the correct vision of different types of accounting, as well as understanding the principles of their preparation. It's also useful to use special services that generate reports automatically - this will help save time and qualitatively structure a large amount of information.

Mistake 6: Satisfied with standard notebooks and tables for record keeping
Many entrepreneurs don't think about the full accounting of finances even when the business is growing, and profits are exponentially increasing rapidly. According to statistics, 24% of companies don't even count money at all, preferring to keep everything in their heads, and 39% use the standard Excel program or spreadsheets in Word.

Of course, there's nothing wrong with these tools, but they can be useful only at the very beginning of business development. Once the company has several points of sale, customers and new directions, you can't do without complex formulas and calculations, otherwise you risk losing sight of a lot of critical information.

What should be done?

Regularly analyse the company's finances - regardless of whether its business is going well or badly. In general, a company can make a profit from a non-optimised business, however, the introduction of financial accounting can increase the business significantly multiplying profits by identifying and correcting mistakes.

Learn from and follow up on mistakes

If you encounter at least one of the above mistakes, it makes sense to think about whether you have enough financial literacy to run a business. Regardless of the scope of the company, the entrepreneur must remember to optimise business processes, control costs and revenues. To avoid financial errors, read more literature on financial accounting, invite a consultant who'll help you to correctly create an accounting system, or take training courses yourself.

However, we note that even in depth knowledge in finance is not a 100% guarantee for eradicating all mistakes. Nevertheless, knowing what you're doing and why allows you to simultaneously make mistakes less often, and identify errors quicker so that you solve them much faster.

In the future, as the business grows, we advise delegating financial accounting to professionals by hiring an experienced financial director (the salary of a good specialist in this field starts from one hundred thousand rubles per month). If the company still can't afford such a specialist, be sure to use special applications to automate financial accounting. Furthermore, remember procrastination and inaction never leads to success!

'Mistakes are costly, and somebody must pay. The time to correct a mistake is before it is made. The causes of mistakes are, first, I didn't know; second, I didn't think; third, I didn't care.' - Henry H Buckley

When all kinds of financial errors are eliminated, you'll see that your business will begin to grow much faster.

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