Importance of Financial Planning for Small Businesses

February 23, 2024
financial planning

Table of Contents

With over 42 million small business enterprises in India, it can be said that starting your small business venture is a great idea in today’s world. However, starting any business requires a lot of work. From brainstorming business ideas to creating business plans, financial planning is an integral part of every business activity.   

Acquiring initial funding, setting up your business and even your daily operations would require a certain amount of money. This is why it becomes crucial for small businesses to have a business financial plan. Financial planning helps the business to make the right decisions, manage expenses and create risk management plans. You will get to know more about the importance of financial management for small businesses in this article.  

What is Financial Planning? 

Financial Planning, with context to a small business, helps you prepare well for details like revenue, profits and loss, turnover, assets and liability, capital, investments etc. A solid financial plan also helps you to review your financial assets to check the financial health of your business. Checking this information becomes crucial because it helps you outline future operations for your small business.   

Importance of Business Finance Planning 

Creating a business plan is an important task that every small business owner needs to do. And one of the steps in this process is going through the financial planning step. It is during this step they realise the importance of business finance. The financial plan is important for small businesses from several points, such as:  

Helps in Managing Risks  

Entrepreneurship is full of uncertainties, and small business owners need to be prepared for any unfortunate events. A business financial plan helps them to cover and manage risks like a hike in prices of raw materials, natural calamities, low turnover etc. And when a small business owner has done the right budget planning, they can solve such issues easily.  

Set Personal and Professional Boundaries 

Having financial plans helps small business owner set apart their personal and business expenses. Otherwise, the line between personal and business spending can get blurred and owners may make unnecessary expenses from the business budget.  

Achieving Long-Term Goals 

Daily operations and short-term goals keep the business running, but it’s the long-term goals that make a small business venture successful. If small business owners have done the right financial planning, then they can achieve their long-term goals, with enough funds and earn regular revenue.  

Balance Expenses and Cash Flow 

Small businesses have limited amounts of funds, and they must use that funds wisely. Here arises the need for financial planning, as it helps them control their expenses and maintain necessary cash funds for emergencies.   

Measures Progress 

Small business owners need to keep measuring their progress rate from the initial stage of the venture. Amidst so much decision-making keeping track of progress becomes difficult, however, if there is a proper financial plan for the business it becomes easier to measure the progress of your small business.  

Financial Challenges Faced by Small Business  

Starting your small business venture is not a task for faint hearts, and owners might face several challenges to keep the business running and financially profitable. Some of the financial challenges that small businesses might face are.  

Inconsistent Cashflow  

The initial stages of a small business see inconsistency in the cash flow, which might lead inability to pay daily wages and day-to-day expenses. And this inconsistency affects the financial health of businesses, that’s why the business financial plan is important.  

Not Creating Budget 

Starting a business venture for the first time can be confusing, but if you are thinking of being successful in this venture by creating a financial budget, then you’re thinking wrong. Creating a budget is crucial for every small business so that they can limit their expenses, maintain cash funds and review their business progress.  

No Preparation for Risk Management  

There is no business without risks, and it’s important to be prepared for any unforeseeable events. And when small businesses don’t do financial planning, they are at high risk of losing their assets. Thus, it’s important to maintain enough cash funds for any emergencies.   

Scarcity of Capital Funds 

Despite so many incentives and programmes launched, small business owners find it challenging to raise capital funds for their small businesses. And limited capital funds hamper their day-to-day operations resulting in a slow business start.   

Mixing Business and Personal Finances  

So many small business owners make the mistake of mixing their expenses with business expenses. This practice makes it difficult to monitor the expenses and can harm the business’s reputation in terms. Thus, it’s crucial to understand the importance of business finance and make sure to open a separate business bank account.   

Role of Risk Management in Small Business Financial Planning

Financial risk management is a systematic process that involves identifying, assessing, prioritising, and mitigating various types of risks that could impact an organization’s financial stability and objectives.
Financial risk management typically consists of 7 steps:

Risk Management in Small Business Financial Planning

1) Risk Identification: The first step is identifying potential risks that could affect the organization’s financial performance or objectives. This includes both internal and external risks such as market risk, credit risk, operational risk and regulatory risk.

2) Risk Assessment: Once risks are identified, they need to be assessed in terms of their likelihood of occurrence and potential impact on the organization. Like qualitative assessment based on expert experience.

3) Risk Prioritization: Not all risks are equal, and some may have a greater impact on the organization than others. It involves ranking risks based on their severity, likelihood, and potential consequences.

4) Risk Mitigation: After prioritizing risks, the next step is to develop and implement strategies to mitigate risk. It involves various risk management techniques such as risk avoidance, reduction, transfer, and acceptance.

5) Monitoring and Review: Financial risk management is an ongoing process that requires regular monitoring and review of risk exposures, mitigation, and the overall effectiveness of risk management efforts.

6) Communication and Reporting: Effective communication is essential for successful financial risk management. This includes communicating risk management policies and procedures to relevant stakeholders and providing regular updates on risk exposures and mitigation efforts.

7) Compliance and Governance: This involves establishing robust governance structures, policies, and procedures to ensure compliance with legal and regulatory requirements, as well as following internal risk management standards and best practices.

By following these steps, small businesses can effectively identify, assess, prioritize, and mitigate financial risks, thereby enhancing financial stability and ability to achieve their objectives.

Top Financial Planning Tips for Small Business 

Every business requires business planning, and so does the small business. Here are some of the financial planning tips for small businesses to run successful businesses.  

Do the Research

Starting a small business can be risky and challenging, before you execute any plans do your research. Talk to fellow small business entrepreneurs, know the risks involved, profit percentage, capital fund needed, operating expenses, and demand of product or service intending to sell. After you have done your research and learned how to do risk management you can go ahead with your plan.  

Look for Multiple Funding Options  

Relining on one funding option is a big mistake that many small business owners make, and you should avoid this mistake. Don’t use all your savings, look out for other funding options. Some of the good funding options for small businesses are crowdfunding, venture capital, pitch competitors or friends & family. This way you will be able to generate large amounts of funds to start.   

Get the Paperwork Done 

Documentation and maintaining financial records are an important part of any business, and they become more crucial for small businesses. So, before you start working on any deal, draw the right paperwork and mention all your terms & conditions. It is one must-follow rule while doing financial planning.  

Maintain Healthy Cashflow 

Maintaining consistent cash flow to the business is crucial, as healthy cash flow enables small business owners to fulfil their duties like paying daily wages and monthly salaries to employees, reserves for emergencies and making investments.    

Understand your Risks 

Risks are part of entrepreneurship but being aware of those risks helps a lot. There are five types of risks that every small business owner should be aware of, these risks are credit risk, market risk, liquidity risk, legal risk and operational risk. Once you understand these risks and develop a risk management plan, then you can safeguard your business venture to a much greater extent.  

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Hire Qualified Professionals 

Hiring for small businesses can be tricky with the limited budget, but whomever you hire should be qualified for their job, especially financial planning experts. Financial experts should have good knowledge of finance and risk management.   

Manage Taxes 

Managing a personal budget might have been a do-it-yourself task for you, but small business finances can be complicated. To manage your business taxes to need to help of experts like a CA or CPA who can guide you to save taxes and audit your financial reports.   

Frequent Finance Review 

Reviewing financial records can be time-consuming, but it’s a necessary task to do. Other than your quarterly and annual reviews, you need to do a monthly review of your cash flow, monthly income and expenses, debts etc. So that you can know whether you are on the right path and whether your business financial plan is working or not.   

Start your Financial Planning Today  

Finance is the core of any business. Small businesses require financial plans to achieve their goals. The main objective of a financial plan is to determine the capital requirement, structure, and framing of finance policies and to generate maximum output. It is a decision-making process in which the business owner or finance manager drafts a finance plan for the smooth functioning of the firm. 

Finance planning is important for carrying out smooth operational functioning, fundraising, investing in a profitable project as well as attaining the goal. There are numerous components of financial planning such as profit or loss statement, net income, balance sheet, sales, risk management, operating income as well as cash flow. These components will help to draft a proper monetary plan for the business. Lastly, the major factors affecting the financial planning of small businesses are taxes, spending behaviour, investors, emergencies, financial potential, risk tolerance, etc. 

Frequently Asked Questions 

Q1. What is the importance of financial planning in business? 

Ans. Financial Planning is important for every business, as it helps business owners stay focused on their financial goals and be prepared for any unforeseeable events. If a business has a good financial plan, it can keep its operations running and pay its employees on time. Thus, businesses need to understand the importance of business finance and make plans accordingly. 

Q2. What is the main goal of financial planning? 

Ans. The main goal of financial planning is the achievement of all your goals. With enough funds and good knowledge of financial management, any business can fulfil its duties towards employees and customers. Financial planning helps in achieving both short-term and long-term goals of the business, with the aspect of earning profits. Because it informs business owners where and how much funds should be allocated. 

Q3. What is business financial planning? 

Ans. Business Financial Planning is a task to determine how a business will achieve its goals and objectives with strategic financial planning. Financial plans each activity that a business needs to do along with funds required to complete that task. Creating financial plans also helps the business to reserve enough cash funds to make investments save for emergencies and pay debts (if any).   

Q4. What affects financial planning? 

Ans. There are several factors that can affect the financial planning of a small business. While creating financial plans for businesses, owners must keep these factors in mind to make their plans successful. Some of the major factors that affect financial planning are: 

  • Spending Behaviour 
  • Savings & Investments 
  • Financial Potential 
  • Financial Goals 
  • Risk Tolerance 
  • Financial Advisor 

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