At its most basic, financial management in business is all about developing a business plan and ensuring that all departments of the business stay on track.
Strong financial management enables the CFO or VP of Finance to provide data that supports the creation of a long-term vision; it informs decisions on where to invest and provides information on how to fund those investments, liquidity, profitability, cash flow, and more.
ERP software can help finance teams achieve these goals: A financial management system combines many financial Features such as Revenue recognition, accounting, payment processing, and fixed asset management.
By integrating these key components, the financial management system provides real-time visibility into the company’s financial situation while facilitating day-to-day operations, such as close and period-end processes.
Strategic and tactical financial management
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At the tactical level, financial management procedures govern how you handle day-to-day transactions; carry out the monthly financial closing; Compare actual expenses to what is budgeted, and ensure you are meeting auditor and tax requirements.
At a more strategic level, financial management feeds into vital planning, financial analysis, and visioning activities; where finance leaders use data to help industry colleagues plan future investments, spot opportunities, and build resilient businesses.
How important is financial management?
Sound financial management is the foundation of three pillars of sound fiscal governance :
- Strategize or identify what needs to happen financially for the business to achieve its short and long-term goals. Leaders need current performance information for scenario planning, for example.
- Make decisions or help business leaders decide how best to execute plans; while providing up-to-date financial reports and data on relevant KPIs.
- Control or ensure that each department contributes to the vision and operates within budget and according to strategy.
With effective financial management, all employees know where the business is heading and they have visibility into progress.
The objectives of financial management
Building on these 3 pillars, financial managers help their businesses in a variety of ways, including but not limited to:
- Maximize profits by providing reliable information; for example, rising raw material costs could trigger an increase in the cost of goods sold.
- Monitoring liquidity and cash flow to ensure that the company has enough money to meet its obligations.
- Ensure compliance with state, federal, and industry-specific regulations.
- Develop financial scenarios based on the current state of the business; and forecasts that assume a wide range of outcomes depending on possible market conditions.
- Deal effectively with investors and boards of directors.
What is the scope of good financial management in business?
Financial management encompasses four main areas:
1. Planning
The CFO projects the amount of money the business will need to maintain a positive cash flow; allocate funds to expand or add new products or services and deal with unexpected events. He shares this information with his co-workers.
Planning can be divided into categories; including capital expenditure, travel and personnel costs, and indirect and operational expenditure.
2. Budgeting
The CFO allocates available company funds to cover costs, such as mortgages or rent; wages, raw materials; employee travel expenses, and other obligations. Ideally, there will be some left over to set aside for emergencies and to fund new business opportunities.
Companies usually have the main budget and may have separate sub-documents covering; for example, for cash flow and operations, budgets can be static or flexible.
For static budgeting: Everything remains the same if there are significant changes from the assumptions made during planning.
For flexible budgeting: Everything adjusts based on changes in the assumptions used in the planning process.
3. Risk management and assessment
Business line leaders look to their CFOs to assess and provide compensating controls for a variety of risks including market risk, credit risk, liquidity risk, and finally operational risk.
4. Procedures
The CFO establishes procedures regarding how the finance team will process and distribute financial data; such as invoices, payments, and reports, with security and accuracy. These written procedures also specify who is responsible for making financial decisions within the company and who approves those decisions.
Businesses don’t need to start from scratch; there are policy and procedure templates available for various types of organizations.
The functions of financial management in business
More concretely, the activities of a financial manager in the above areas revolve around planning, forecasting, and controlling expenses.
The FP&A function includes the issuance of income statement statements; the analysis of the ranges of products or services having the highest profit margin or contributing the most to net profitability; maintaining the budget and forecasting the company’s future financial performance and scenario planning.
Cash management is also essential; because the CFO needs to ensure that there is enough cash for day-to-day operations, such as paying workers and purchasing raw materials for production. This involves monitoring the cash flow in and out of the business, a practice called cash management.
In addition to cash management; financial management includes revenue recognition or reporting of business income in accordance with standard accounting principles. Balancing accounts receivable turnover ratios is a key part of strategic cash conservation and management. It may seem simple, but it’s not always the case: in some companies, customers can pay months after receiving your service.
Here are 5 tips to improve the turnover rate of your customer accounts
- Invoice regularly and accurately. If the invoices are not sent on time, the money will not arrive on time.
- Always state the terms of payment. You cannot enforce policies that you have not communicated to customers. If you make changes, call them.
- Offer multiple payment methods. New B2B options are coming online. Have you considered a payment gateway?
- Set follow-up reminders. Don’t wait for customers to be late to start collection procedures. Be proactive, but not boring, with reminders.
- Consider offering discounts for cash and early payments. Cash (less) is king in retail and you can reduce RA costs by encouraging customers to pay in advance rather than on your normal customer credit terms.
Finally, managing financial controls involves analyzing the company’s financial performance against its plans and budgets. Methods for doing this include financial ratio analysis, in which the CFO compares line items from the company’s financial statements.
What are the three types of financial management in business?
The above functions can be grouped into three broader types of financial management:
- Capital budgeting involves identifying what needs to happen financially in order for the business to achieve its short- and long-term goals. Where should investment funds be spent to support growth?
- Capital structure, determining how to pay for operations and/or growth. If interest rates are low, going into debt might be the best answer. A business may also seek funding from a private equity firm, consider selling assets such as real estate or, if appropriate, sell shares.
- Working capital management, as indicated above; consists of ensuring that there is sufficient liquidity for day-to-day operations; like paying workers and buying raw materials for production.
An example of financial management
Suppose the CEO of a toothpaste company wants to launch a new product: toothbrushes. She will use her team to estimate the cost of producing the toothbrushes and the CFO to determine where these funds should come from, such as a bank loan.
The CFO will acquire these funds and ensure that they are used to manufacture toothbrushes in the most profitable way possible. Assuming toothbrushes sell well; the CFO will collect data to help the management team decide whether to use profits to produce more toothbrushes; launch a line of mouthwashes, pay a dividend to shareholders or take other actions.
Throughout the process, the CFO will make sure the company has enough cash to pay the new workers who produce the toothbrushes. It will also analyze whether the company is spending and generating as much money as it estimated when budgeting for the project.
Financial management in business: How to manage debts well?
Debt is undoubtedly a useful tool when starting and growing your business; and in reality, the vast majority of small businesses will depend on some type of debt financing. However, there is a fine line between having debt you can handle and debt that spirals out of control. Sometimes all it takes is one event like a market downturn; a late payment from a customer or a drop in sales to tip the scales.
Good money management is about the little things. It’s about taking public transport to meetings instead of taxis and cutting costs where you can. The same can be said for small business debt management. You need to keep an eye on the situation and take steps to prevent the debts from spiraling out of control.
What steps can you take to manage small business debt more effectively?
a) Create a rainy day fund
It is impossible to foresee all eventualities in business; so just like in your personal life, it pays to have savings you can dip into when you’re faced with unexpected costs. If you have money left over at the end of the month; top up your savings fund and make sure there is always a minimum amount in the account. This will reduce your reliance on a business overdraft and credit card to cover costs such as long-term staff illness and vehicle breakdown; allowing you to take advantage of unexpected growth opportunities.
b) Reduce unnecessary expenses
If the debt becomes a problem for your business; it’s likely that you can take cost-cutting measures that won’t impact your ability to run the business effectively. This could include canceling a weekly cleaning service, reducing the amount you spend on office supplies; dismissing non-essential staff; and meeting clients in cafes rather than renting meeting rooms. You can resume your normal spending habits once your debt is under control.
c) Increase your income
There could be a number of relatively simple ways to increase the income that you’ve overlooked. For example, something as simple as offering a prepayment discount to your customers could result in a short-term cash injection. Alternatively, if you are not using all the available space in your business premises; you may consider subletting unused square footage to generate additional revenue or downsizing to lower your rent. On the other hand, if you have a method of marketing your business that has been proven to generate results; temporarily increasing your marketing spend will lead to increased sales.
d) Consider refinancing
If you have a business loan that you are repaying at a higher rate than the current market interest rate; consider refinancing it in favor of a loan with more manageable monthly repayments. If business loans are not available at lower interest rates; make paying off loans with the highest interest rates a priority. You must first pay off all debts for which you have provided a personal guarantee. This will ensure that your personal assets are not at risk if the company defaults.
e) Negotiate with suppliers
Don’t hesitate to negotiate with suppliers and ask for discounts when placing bulk orders. You can use lower quotes from other vendors as leverage; or leverage your prompt payment history to negotiate more flexible or extended payment terms. You can also consider partnering with another small business to make bulk purchases at lower prices.
f) Manage and improve your credit score
Your ability to qualify for trade credit of any kind; whether it is a commercial credit card; a small business loan or a real estate or equipment lease, will depend on the credit rating and track record of your business. The better your credit history, the easier it will be to obtain financing and the lower the interest rates you will have to pay.
Taking steps to increase your credit score may not reduce your debt repayments now, but it will help you access more affordable credit in the future.
