On my search for a great topic for this weeks blog I came across an interesting article and concept from May 2012 by Bruce Sellery, that he calls “The Priority Pyramid”. He has devised a system that helps you out If you are having troubles setting financial priorities.
It is based on Maslow’s hierarchy of needs that you’ve probably heard of.
Maslow found that our most fundamental needs, the physiological needs, have to be met first (air, water, food, shelter) before we are interested in the next level of needs, the Safety Needs. Once those are met too, we get interested in the Love and Belongings Needs, then the Esteem Needs, and if they are all met we work on Self-Actualization.
Bruce Sellery used Maslow’s hierarchy of needs and designed his Priority Pyramid for private finances for us to know what to focus and prioritize first when it comes to our money. He says: “Rather than trying to work on everything all at once, figure out what you need to do first. Once you meet those financial milestones you can move up to the next level on the pyramid.”
I was intrigued.
While Bruce was talking in this video about our private financial priorities, my head was spinning with ideas how these tips can be ‘converted’ to work just as good for your business finances. Further research brought me to another interesting blog post. This one is by Libby Kane and she talks about the financial blogger Mister Squirrel who also had his own version of the Maslow’s hierarchy. Mister Squirrel calls his pyramid The Hierarchy of FIRE (Financially Independent and Retired Early).
I combined these two concepts and crafted a Business Finance Pyramid.
Let’s go through it.
The levels of the Business Finance Pyramid
Mister Squirrel called this level “Surviving”. For your business the fundamental need, the air, food and water if you will, is CASH. In short, your Cash-In (=Sales Revenue) has to be greater than your Cash-Out (= expenses including you paying yourself). Sounds logical right? But a lot of entrepreneurs I talk to either don’t know if their cash-in is greater than their cash-out or they know it is not.
The most important financial statement for your business is the Cash Flow Statement.
This involves, of course, tracking money coming in and money going out. It also involves planning cash-in and cash-out in advance, I call this the Rolling Cash Flow Statement. This is an extended and important topic, watch out for a blog post about it in the very near future.
At the beginning of your journey as an entrepreneur, the most important thing about taxes is …. to not forget them!
So often I hear my clients say, oh no my Sales Tax Return is due but I don’t have the money. Or: oh no, the taxes for my business are due and I don’t have the money.
For every Sale you make, you should put away the portion that does not belong to you. The sales tax portion of your revenue belongs to the government, you are just the collector for your government, and then you have to hand it over. For this matter, Sales Taxes actually belong in level 1 “Cash Flow” as for every Sale you make (cash-in) you also take in a certain amount that turns into a cash-out in the near future.
Taxes on Profit, on the other hand, are not calculated on every single Sale you make but rather at the end of the year, after all the eligible expenses have been deducted. It still makes sense to take a portion of every single Sales Revenue and stash it away for that day when the tax bill lands in your mail box. How big that portion has to be depends on the tax rate of where you are. An often used benchmark is 25%.
Another topic I don’t want to leave unmentioned is if you don’t have the receipt you can not claim an expense in your business, even if it would be an eligible claim. You do need proof of Purchase, a receipt and in most cases just a cleared check is not enough. Not having the proof of purchase can cost you dearly if you get audited and you don’t have the receipt the expense is not allowed and this will increase your profit which in turn increases your taxes owed. Usually the tax authority slaps you also with interest and a hefty fine. So it pays out to keep all the receipts.
A little further into your adventure as an entrepreneur it makes sense to look at Tax Savings Opportunities for your business. By then you most likely are close friends with your accountant and she/he will steer you into the right direction.
Most business owners use their credit cards as if it was cash-in, but financing your business with a credit card is not a wise decision. Instead focus on increasing your cash-in, your Sales Revenue and get rid of any credit card balance as quick as possible. I talked about credit card balances and debt in this article already: Other People’s Money: how to use credit cards wisely
Savings / Rainy Day Fund
Just like in your private finances in your business too you should have a nest egg, a rainy day fund. This is an important cushion for (s)low revenue months, for when you are sick or had an accident and can’t work but the bills keep coming in. For years already I put away 10% of my Revenue into the rainy day fund.
Once you have a comfortable cushion set aside (3-6 months of fixed costs, for example, you can breathe a little easier when things don’t go the way you had expected. Mister Squirrel calls this Learning about the possibilities for your money. Which accounts should you use? Should you invest, and how?
Now that you have your money in order you enter a new level of entrepreneurship. To be prepared to grow your business and make it an even bigger success make sure you have all your ‘house in order’. Be as organized as possible, have a good routine and system to check your numbers, tweak and optimize your processes, make sure you have a complete and crystal clear overview.
Now you can plan on investing in your business. Whether that is hiring outside help in the form of contractors or employees, hiring a tough and expensive business coach or moving up to more expensive hardware and/or software solutions. With a solid foundation and a profound understanding of your business finances (cash flow, taxes, debt, and rainy day fund) you are on the right track of expanding and growing your business.
When you get to this stage, your business basically runs on its own. You have several income streams, a big part of your Sales come from Evergreen Courses and Programs that don’t need your time and energy on a daily basis. You may hire somebody to take over and take a step back. While I never suggest you give the reins out of your hands completely, you have arrived and can now lean back, enjoy your success and possibly dream of new challenges.
Let me know in the comments below, where are you respectively your business standing in terms of this Business Finance Pyramid? Are you on solid ground making progress achieving one level after the next or are you on shaky / sandy grounds because you skipped a step and are paying the price now?