Personal versus Business Expenses
When having a business it is important to have a separate business bank account. Pay your business expenses from your business bank account and your personal expenses from your personal bank account. It may sound obvious but many business owners get it wrong. If you don’t keep your personal and business finances separate:
- You run the risk of your financial results not being a true and accurate reflection of your business.
- The accounting function can become a nightmare.
- SARS might penalize you for incorrectly deducting personal expenses for tax purposes.
- Your profit margins and other ratios will not be accurate and provide you with a false picture of your business.
- It might become a habit relying on your business to cover personal over-expenditure.
Analyse Combined Financial Results
Business owners wanting to make meaningful decisions, should analyse their combined financial status. Don’t analyse your income statement or balance sheet in isolation. To make optimal and powerful decisions based on your financial results, analyse all of these in relation to each other and as a combined picture: income statement, balance sheet, cash flow statement, statement of equity, budget and financial ratios.
Return on Investment (ROI)
Business owners should always calculate and know the Return on Investment (ROI) they make in their business. ROI is a solid performance measurement ratio assisting the business owner to understand how profitable the investment in the business is or how efficient any other investments are. ROI basically calculates the profit or loss generated on an investment in relation to the amount of money invested. The formula to calculate ROI = Net profit of the investment (total return less costs) divided by the total investment x 100. ROI is measured and expressed as a percentage and therefore it is easily comparable to other investments. The ratio will assist you to make the best decision if comparing different investments. It also assist you determining whether your current investment in your business is profitable.
Direct and Indirect Expenses
Certain products / businesses seem profitable but when the indirect costs are added to the costing model, the profit margin can become a lot smaller or the product / business might even make a loss. For example when selling hamburgers: the direct costs will be purchasing bread rolls, patties, tomatoes, lettuce, onions and cheese. But don’t forget to add the smaller indirect costs like sauces, packaging, printing price lists etc. Other costs like rent, salaries, water and electricity, marketing etc. should also be factored into account. Always consider all costs when making financial decisions; when determining prices; when doing cost projections and when calculating profitability.
Budget for Income and Expenses
When preparing a budget, it is critical to budget for both income and expenses. When budgeting for expenses only, you will not know whether you are projecting a profit or a loss. You will also not know if you are exceeding your budgeted income and should be cutting costs.