Upgrade Your Business Toolkit

Classic Cincinnati Post column from 1998

When my wife and I bought our first house some 20 years ago, we quickly discovered how woefully inadequate our apartment dwellers’ tool kit was for the demands of home ownership.

Two screwdrivers, a hammer, and an adjustable crescent wrench simply weren’t sufficient for the kinds of problems that we had to solve.

Most small business owners have a similar kind of experience. The tool kit that may have served them well as consumers, or even as novice business owners, is often no longer equal to the tasks at hand and needs to be upgraded.

The business tool that most often needs upgrading is the accounting system.

Many small business owners assume that this means changing from a manual to a computerized accounting system, but that is not necessarily the case.

The key upgrade is to go from a cash basis accounting system to an accrual basis system. Only an accrual basis system, one which accurately matches revenues with direct costs regardless of when cash is received or paid out, provides business owners with information they need to effectively manage. Only an accrual system can pinpoint problems, like those with pricing, that directly affect profitability.

To be a truly useful tool, your monthly income statement should include a breakdown of sales by category (product line, department, or type of job), cost of sales by the same categories, interest payments on loans, depreciation, and all the standard monthly operating expenses like rent and utilities.

Your income statement may need a formatting upgrade as well to include comparisons to the same month last year, year-to-date information for this year and last, and common sizing (an expression of each line as a percentage of net sales).

Your monthly balance sheet should include cash, inventory adjusted for changes including work in process, aged accounts receivable, fixed assets adjusted for depreciation, aged accounts payable, payroll tax liabilities, all debt adjusted for monthly principal payments, and owner’s equity.

You can use this system with another key tool, industry standards, to compare your business to others in the same industry and identify areas for improvement. Industry standards come from a variety of sources, but two of the best are your national trade association and RMA, the national bankers’ association.

Some key areas of comparison are gross profit margin, labor costs, marketing costs, communications costs, and transportation costs. Any category where you exceed the industry standard is an opportunity for you to improve and to increase your profits, often significantly. For example, if you have sales of $1 million, a modest 1 percent reduction in costs means an additional $10,000 in profits.

A related tool that all small-business owners should use is the budget. Budgeting is a crucial process because it forces you to look back and assess your performance and to look forward and set goals for yourself and your firm. The very best budgets are tied to specific numeric goals (market share, revenues, profits) and to a monthly operating plan that spells out how to achieve those in the coming year.

If you are a job shop manufacturer, in the building trades, or in landscaping, you need to periodically upgrade your estimating models and work sheets to ensure you are giving your customers quotes that are competitive and profitable.

You need contracts specific to your business to ensure that you get paid. If you extend your own credit to customers, you need to have your own account or credit application and your own custom invoices spelling out the terms of the sale.  Visit the Arkansas SBDC web site at http://asbtdc.ualr.edu/ for a comprehensive list of tools you might be able to use.