Before you consider raising equity, it’s important to get your finances in order. Here are ten questions to ask yourself to help determine the financial health of your business.
1. Is your strategic plan documented?
One of the best things you can do for the financial health of your business is to put your strategic plan in writing. One that clearly outlines your goals, both financial and otherwise. Your financial goals should align with your strategic goals – if they are at odds with one another, you may need to go back to the drawing board.
Once you have your strategic plan in writing, you should also compile an information memorandum. Similar to a prospectus, a memorandum includes strategic plans, marketing plans, financial forecasts, and so on.The purpose of this document is to sell your business to potential investors, so it should be very compelling and clearly articulate why you need funding, what you’re going to do with it, and how your profit will increase as a result.
2. Do you have realistic forecasts and cash flows for the next three years?
A strategic plan is only useful if it’s accurate and realistic. Can you accurately predict cash flow for the next three years or longer? Have you done the market research to back up your assumptions? Have you tested your forecasts against the strategic plan?
Potential investors will ask the hard questions; it’s better if you beat them to it by asking them of yourself first.
3. Are you realistic about your worth & ‘sweat equity’?
A business is more than just numbers on a piece of paper; thousands of hours of hard work, sweat, and tears have got your business to where it is today. It’s important to take your ‘sweat equity’ into account. However, it’s equally important to be realistic about this value. Be careful not to over- or under-inflate your worth.
If you’re struggling to come up with an objective figure, it may be a good idea to commission an external valuation. Potential investors will probably trust an external valuation over a personal estimate in any case, so it’s often worth the cost.
4. Are you ‘bankable’?
A tough but important question – are you bankable? If you were a bank manager, would you give yourself a business loan? Most banks will be looking for the following values: commitment, integrity, history, character, and capability. Can you prove your trust in these areas?
5. How well do you know your numbers?
Not many people go into business because they love crunching numbers. Chances are, you’re passionate about whatever you’re selling – be it language lessons or leather shoes. But to succeed in business, you need to keep a close eye on your financial data. Do you know your break even point, margin, and capacity off the top of your head? Or do you need to spend days staring at spreadsheets to work these figures out?
Try to get to a point where ‘crunching the numbers’ becomes second nature.
6. Have you mapped out how you will use future funds?
Making money is one thing; knowing what you’re going to do with it is another. Do you know how you plan to spend future income, or would you prefer to see how you feel once it’s in the bank? Being flexible isn’t a bad thing, but if you want to raise equity, it’s important to map out how you will use future funds. Investors want to know that their money will be used to help grow the business, not buy you a nice new car.
7. Is your growth plan achievable in a short to medium time frame?
Business owners tend to be great visionaries, but when it comes to making money, sometimes you have to keep the imagination in check. Placing lofty financial goals aside, is your growth plan achievable in a realistic time frame? Many investors do not have the luxury of waiting 10 years to see a return on investment. You must be able to reach some financial milestones in the near future.
8. Do you have a working independent governance board?
Managing money has its challenges. For example, it can be difficult to maintain an objective viewpoint – especially when the future of your business feels at stake. An independent corporate governance board can help you identify weaknesses before they become full-blown problems. An advisory board can also help ensure that the business is being run professionally and in the interest of all investors.
9. Do you have an exit strategy?
The end goal of most investors is to sell out of the business at a better price in the future (i.e. make a profit). Therefore, it’s important that you can show them your plans for future growth, and how you aim to improve the value of the business. Investors will want to be confident in the business’ potential before they come on board.
10. Could you pass a due diligence test?
When it comes to assessing the financial health of your business, you can’t make anything up; your valuation needs to be based on facts (i.e. existing trademarks, patents, distribution channels, supply chains, market demand…). A due diligence test is essentially like a property being subject to a builder’s report before purchase. Make sure your business is in a position to pass with flying colours when put under the microscope.
This blog was written by Ash Clarke from Bellingham Wallace, a Chartered Accountancy firm based in Auckland. Since 2013, The Icehouse has worked with Bellingham Wallace to provide financial management capability workshops for business owners and leaders.