What Is Financial Health and Why Is It Important to Your Business?

January 14, 2022

Financial health is somewhat a common buzzword nowadays. Most people have become alert to the importance of financial health. Just as much as every individual is supposed to have their finances in order, every business must also regulate their financial well-being. If finances are not regulated well, it’s easy to descend to a place of failure, and business failure isn’t fun. Failure for a business may result in closure or liquidation. Therefore, for your business to survive in the long run, you need to keep it financially healthy.

Different businesses will have slightly different goals, and consequently, their operations will be different. The metrics needed to assess financial health will differ from industry to industry.

That being said, here’s a short guide on how financial health affects business and why it is important:

 

 

1. What Is Financial Health?

 

Financial health refers to the financial well-being of a business. Everybody knows that the end goal of business is to make profits. Without profit, a business cannot survive, so businesses are a vehicle for cash generation, in a sense. There’s usually a system in place that facilitates the smooth running of a business’s operations.

Financial health considers the volumes of money coming in versus money going out. It also considers other aspects such as debts, creditors, and expenses. Ideally, a business should keep its liabilities in check. It should also ensure the proper management of expenses to avoid loss. If the business is managed poorly for a long time, profits will deteriorate. Therefore, every business should manage finances to optimize profitability. For more information and tips about business financial health, visit https://www.michigancfo.com/fractional-cfo.

Furthermore, since businesses are technically a going concern, they will incur operational costs. But the money that goes in should outweigh the money that goes out.

 

2. Why Is It Important?

 

The main reason why financial health is important is that it affects a business’s capacity to generate profits and grow. A business needs to be profitable to survive in the long run. An unprofitable business is not sustainable. Also, since finances are a big part of business, managing them is paramount to success. You need to be financially stable if you wish to engage in business with the world. Mind you, credit ratings are very important. They can be the difference between receiving the loan or being rejected. So, if you have massive debt in your name, it will be hard to secure loan financing or even investor finance because of a poor credit rating. Nobody wants to invest in a risky business. Even if you do secure a loan, you’re likely to pay higher interest rates because of your risk profile.

Therefore, financially healthy businesses are attractive to lenders such as banks. The financial health of the business positively contributes to its viability too.

Also, you need to keep track of your credit before it’s too late. The consequences of poor financial management could slow you down. It’s better to keep track of your business’s financial performance diligently.

 

3. How Is It Determined?

 

Businesses use financial ratios to measure the financial health of their business. Big or small, finance is perhaps the most measurable aspect of a business. Ratios are very informative and aid in financial planning and decision-making. Every ratio reveals the status of your business’s financial health, so you have to understand what the ratios mean to derive utility from them.

But here’s an important point to note: businesses operate within different industries and not all industries prioritize the same key performance indicators or financial metrics. Therefore, when utilizing ratios, you need to stick to one industry. Here is a brief outline of the most common ratios that are used in business:

 

 

a. Debt-Equity Ratio

 

Debt isn’t always a bad thing. Companies can leverage debt to bring a greater return for their shareholders. When a business can flip debt into earnings for its shareholders, it creates value from borrowing. The debt-to-equity ratio calculates total liabilities divided by total assets. A ratio of less than one signifies that the company can cover its debts. If it’s above one, the company is highly leveraged.

 

b. Profitability Ratios

 

The net profit margin is perhaps the ratio that investors consider most. It measures the efficiency with which a business generates profits. Higher margins or good bottom lines are positive. Having a low margin doesn’t necessarily equate to poor performance. For example, companies like Tesla have low-profit margins, yet they are still high-value businesses. Nonetheless, the net profit margin is still is a useful indicator to use in assessing the financial health of a business. If you’re an investor, you want to put your money where the profits are likely to come.

 

c. Liquidity Ratios

 

These ratios measure a business’s accessibility to cash. This is especially important in the event of a crisis. It also measures how quickly a company can convert its assets into cash on demand. This is why many companies invest in short-term liquid securities that can quickly convert into cash.

Therefore, a liquid business is preferable. It’s also more likely to survive in a time of crisis than an illiquid one.

The most common liquidity ratios are the cash ratio, quick ratio, and acid test ratio. These ratios are similar in that they all try to measure how much a company will pay off its current liabilities. The higher the ratio, the better.

 

4. How Can You Improve Your Business’s Financial Health?

 

Benchmarking – It’s always good to keep up with what the competition. Businesses can use the ratios to check whether they’re falling behind. If so, they have to rectify some things to get back on track.

Budgeting – A budget is a useful tool in terms of decision-making. It has to be realistic Also given the fact that the business landscape always changes. You need to have a flexible budget in place.

Automation – Try to automate as many parts of the business as possible. Automation offers the opportunity to optimize business processes and accessibility. Automation is the key to unlocking efficiency in your business.

Pay your debts on time – If you can, pay off your debts promptly. You don’t want your credit score to be impacted negatively due to your inability to pay off debts on time.

Asset disposal  – This can be an option if you have some assets that are no longer in use or are way past their useful life. You can dispose of these assets to improve your business’s liquidity.

 

Conclusion

 

Just as much as individual financial health is important, so is a business’s financial health. Financial health affects the ease with which it can conduct business. It also affects its credit rating. Poor credit ratings are bad news for big corporations, but more so for startups and smaller enterprises. Therefore, in the interest of running a business as a viable going concern, it’s best to have a healthy financial record. When dealing with investors and lenders, you need it to work in your favor.

0 Comments

Submit a Comment

Your email address will not be published. Required fields are marked *

Is Your Business Being Found Online?

Laptop Metrics Colorado

Free Digital Marketing Report ($150 Value)

marketing module lineWant to know how your business stacks up against the competition?

Read more articles about Business.

6 Skills You Should Learn to Build Passive Income

In a world where achieving financial freedom and pursuing personal interests hold utmost value, the notion of generating income effortlessly has garnered immense popularity. Though earning money without active involvement may appear as a distant fantasy, it is indeed...

How to Market Yourself as an Artist Online: 4 Tactics to Try 

The huge impact of the internet in today's technological era has brought about a dramatic transition in the way artists may exhibit their skills and connect with a global audience. The era of relying solely on traditional galleries and exhibitions for recognition and...

Building A WhatsApp Marketing Strategy: Key Elements To Consider

Effective marketing strategies must adapt to evolving consumer behavior and preferences in today's digital landscape. One such adaptation is leveraging the power of messaging apps like WhatsApp to engage with customers directly and on a more personal level.   In...

5 SEO Strategies to Improve your Business’s Search Engine Rankings

Search engine rankings have a significant impact on the success of businesses. You want your products and services to appear on the first page of search results whenever someone wants to buy something.  You can achieve this with Search Engine Optimization (SEO). SEO...

The Applications Of CRM In The Beauty And Wellness Industry 

CRM (Customer Relationship Management) is an essential tool for businesses in the beauty and wellness industry. It allows them to establish and build meaningful relationships with their customers, provide personalized services, and increase the likelihood of repeat...

Digital Marketing Basics If Your Website Is In Sensitive Niche

In the rapidly evolving digital landscape, every business strives for visibility, engagement, and conversions. But what happens when you operate in a sensitive niche? How do you market a website that could attract controversy, regulations, or a narrower audience?...

3 Tips to Find the Perfect Digital Marketing Mix for Your Startup

Marketing is the cornerstone of business operations, and startups are no exception. According to Gartner statistics, companies spend 9.5% of their gross revenues on marketing. It’s a relatively small number, considering that campaigns bring in customers and revenues...

What is the Marketing Strategy for Selling Toys?

Promoting and selling toys in today's saturated market requires a well-thought-out marketing strategy. Given the plethora of toys on the market today, it's important to have a solid marketing strategy that will help you differentiate your products from the...

Read more articles about business.

6 Skills You Should Learn to Build Passive Income

6 Skills You Should Learn to Build Passive Income

In a world where achieving financial freedom and pursuing personal interests hold utmost value, the notion of generating income effortlessly has garnered immense popularity. Though earning money without active involvement may appear as a distant fantasy, it is indeed...

9 Strategies for Growing Your Startup Company

9 Strategies for Growing Your Startup Company

Every startup company is fighting an exhausting battle–trying to attract attention to their business while competing against established giants. How can you overcome the odds? How can you make your company stand out in a crowded market? Learn a few strategies here on...

10 Strategies for Bridging the Tech Talent Gap

10 Strategies for Bridging the Tech Talent Gap

Businesses today are grappling with an acute shortfall of skilled tech professionals who can drive innovation and growth. The inability to secure such personnel not only constrains corporate development but also carries significant economic implications. Below are...

How Can You Use Data To Improve Your Business?

How Can You Use Data To Improve Your Business?

  Today, much of the world is run and analyzed by data. From what you spend the most time looking at online to the things you buy in the shop, pretty much every business is looking to use any bit of data they can find to help market themselves to you. Many...

How To Solve The Most Common Customer Complaint Issues

How To Solve The Most Common Customer Complaint Issues

The customer is the purest form of quality control. Without their approval, your business will not grow or thrive. So when customer complaints come in, it's important to listen to them, as it's a way to improve the experience and prevent possible churn. No matter what...

A Few Tips That Can Help to Grow a Business Digitally

A Few Tips That Can Help to Grow a Business Digitally

In today's digital world, businesses need to stay up-to-date with the latest technologies and marketing strategies if they want to remain competitive. For any business looking to grow, there are a few key steps that can help them succeed in the digital space. From...

Share This