The Fundamental Principles of Business
I’ve been thinking recently about the fact that it’s difficult to say useful things that are relevant to businesses of all sizes. In reality the difference between small and large businesses, and the way they’re managed, are huge. We tend to talk about ‘small business’ as if it were one category, with one man bands like me lumped in with the £100m international group. ‘Big business’ is a massively diverse category. And whilst it is difficult to give financial management advice that will suit a wide ranging audience, every so often I think that, whether you’re in a big business or a small one, going back to the fundamental principles of business can be really helpful.
So what are those fundamental principles of business? In summary, the basic tenets that apply to all businesses are:
- You have to make a profit
- Cash really is King
- Have a plan and know what’s coming
- Stick to the plan
- Review your progress very regularly
- Never spend more than you have to
Profit is Prime
First, your business has to make a profit. If you don’t make a profit in the long term you would have been better off if you stopped doing business. Ok, in the early days you may start off with losses while you are winning customers. But if you don’t start making profits soon enough then you will run out of money. Investors and lenders don’t like putting more money into businesses that are not profitable.
Remember, the definition of making a loss is reducing the owner’s/investors’ capital. And you’re not in business to end up with less money than you started with, and neither are your investors.
So don’t ever lose sight of that. Don’t ever shrug your shoulders and say to yourself, “oh well, we’re still in the loss-making phase.” Instead, ask yourself, “how can we get profitable more quickly?”
And increasing profit is basically very simple – sell more, increase prices and/or decrease costs.
Cash is King
Second, whether your business is big or small, if it runs out of cash the business is finished. Cash is like the fuel in the car. Once it has dried up, the car is going nowhere. If you are trading at a loss, at least you are still trading! If you have no cash, you are not trading at all.
So get your customers paying on time, don’t hold too much stock, don’t pay suppliers too early, and make sure your business is properly funded by doing cashflow forecasts.
Planning is Essential
The third of our fundamental principles of business is that planning is essential, whether you like it or not. You have to know where you want the business to go and what you want it to achieve, and then ask yourself how it is going to achieve it. And do that with detailed questions until you know exactly what you need to do.
Many businesses fail because they didn’t have a plan.
Stick to the Plan
Fourth, stick to the plan. Obvious point, but worth making. A plan is pointless if you are not going to follow it. Make sure it is detailed enough to follow, but flexible enough to allow changing course if it’s not working as well as you thought.
Of course, in bigger businesses you need to get everyone on board, understanding the plan and buying into it. In my one-man band sticking to the plan just means that I set out the tasks I work out that I need to do, and then I do them. Either way, if you believe you’ve done good analysis in developing the plan, then you have to break it down into actions that are easy to understand, and then do them.
Measure what Matters
Fifth, measure your success against the plan. That’s a positive and a negative. You must measure your success against the plan. But you should not waste time measuring things that don’t tell you how well you are performing against that plan. Your plan should include every important element in moving the business towards your visionary objective.
There are some things you always need to look at: Your income statement each month, your balance sheet, your debtors list and your cashflow forecast.
But each business will need to define and decide on other metrics for itself, because those metrics should relate to the unique business and the unique plan. Just ask yourself how you will know whether the business is succeeding for each key element of the plan.
Remember, we call them KPIs (Key Performance Indicators) for a reason – Key because they’re important! Performance Indicators because they tell you something about performance against an objective.
Finally, following on from the point about making a profit, don’t spend more than you can afford. Easy to say. Not so easy to do.
It’s all about challenging every piece of expenditure that is proposed, whether it is in the business plan or not. Is it really necessary? Could it be deferred? Broadly speaking, if the spending does not either help to keep you in business or contribute to increasing your profit in the future, then it is not going to help your business. So don’t do it. Sometimes this is a subjective judgment, and you will not really know whether you got it right or wrong. But simply committing yourself to that frugal mindset will mean that you are probably going to get it right mostly, and you will have a more profitable and more successful business because of it.
Back to Basics
Sure, this is all obvious and ‘noddy’ stuff. But how many businesses have failed because they were trying something fancy and neglected the basics? How many businesses have failed because they thought they had made some magical paradigm shift in business management into a dimension in which the fundamentals of profit, cash, planning and measurement no longer applied?
However simple your business is, it’s not too simple to benefit from thinking of these fundamentals.
However large and complex your business is, it’s never too complex to bring it back to these first principles.