Once you have a working knowledge of business finances, you have to ask the tough questions specific to your enterprise:
- How much money do I need to start this business?
- How long until my product or service will become profitable?
There is no perfect answer to these questions. It depends on your niche, which should be as narrow as possible in the beginning.
“Entrepreneurs often try to target as broad of a population as possible,” Moltz said. “That will just lead to more competition.” [Interested in finding the right accounting software for your small business? Check out our best picks and reviews.]
Understanding your niche will help you answer these more concrete questions. Service-based businesses, for example, take much less money to start than product-based businesses. No matter your market, the key is to not overspend.
“New business owners spend way too much money in the startup phase,” Moltz said. It seems logical – the more money you spend getting customers, the more customers you will get. Unfortunately, that is not usually the case. That’s where profitability comes in.
Make sure you have a strong grasp on your business niche, how much money you need to get started, and how long it should take before your business becomes profitable.
Conduct financial forecasts to gauge profitability – Similar to how much money you’ll need to start your business, your future profitability depends on many different factors.
“A business can take its time becoming profitable for however long you have the cash flow to support it,” Moltz said. However, he added, most small businesses need to achieve profitability in the first year to be sustainable.
If you take time for financial forecasting – a management tool that estimates profitability based on your past and present financial conditions – then you should know ahead of time when you’re supposed to be cash-positive.
“Over-forecast revenue and under-forecast expenses,” Moltz said. In your forecast, cut your revenue in half and double your expenses for the first six months or year to avoid overspending. In this vein, Moltz’s go-to piece of advice for his clients is that “revenue is vanity and cash flow is sanity.” It doesn’t matter how successful you appear from a sales standpoint if you aren’t generating revenue.
To gauge your business’s profitability, conduct a financial forecast based on your past and current financial conditions.