Welcome to Boosting your Financial IQ, a podcast for investors, business leaders, entrepreneurs and individuals looking to transform their organizations and lives through greater financial literacy. I'm Steve Coffrin and I'll be your guide as you seek to better your financial life. I turn around, grow and invest in high potential companies and I'm here to teach you the fundamentals of accounting and finance so you can speak the language of money and act intentionally to drive greater financial value. Are you ready? Let's do this. Thanks for joining me for another episode. Before we get started, remember that this content is for educational purposes and should not be construed as financial or legal advice. See the podcast notes or byfiqcom for a full list of disclaimers, terms and conditions On to the episode. Hey everybody, welcome back to another episode of Boosting your Financial IQ. I'm glad to be with you today. I want to share with you, from my experience, five financial mistakes that most entrepreneurs make in business. I see these things over and over again and hopefully, if you're a business owner, or even if you're a business leader and you have financial responsibility within your organization, you can take these tips and then apply them to your organization to make sure that you don't fall into these common traps. Now, if you don't know, beyond hosting this podcast and founding the Boosting your Financial IQ platform, what I do for a living is I turn around and I grow organizations. I don't know if you knew that or not, but through this experience and working with tons of entrepreneurs and business owners in the areas of strategy and financial management in order to drive growth and improvement, I have seen things over and over again, and that's what I want to share with you today on this episode. So let's go ahead and jump in. I'm going to share with you the five things, like I mentioned, the five financial mistakes more specifically, that entrepreneurs make.

Okay, so number one is an overly complicated chart of accounts. So if you're not an accountant or you don't know what the term chart of accounts refers to, think of it like this the chart of accounts represents all the accounts in your accounting system which then show up on your financial statements, so on the income statement or on your balance sheet. Specifically, I'm referring to those two financial statements right now. If you have a ton of line items, you're not alone. Okay, because this is where most entrepreneurs go wrong. The reason why this happens is because when they set up their financial accounting system initially like right out of the box. Usually these softwares come with a pre-populated chart of accounts, so they have recommended chart of accounts that people can use to start tracking their revenue and their expenses and their assets and liabilities and so on and so forth. Okay, so that's not a bad thing. However, it can get overly complicated super fast.

In addition to this out of the box chart of accounts structure, then entrepreneurs and business owners or leaders whoever has access to the accounting system or whoever is running the business they oftentimes want to add additional accounts to track more things, and over time, these charts of accounts can become super complicated and just too much. To be quite frank, when I was a CFO, I went into this company and they were a billion dollar company and I looked at their chart of accounts and I was like, oh my gosh. Step number one is I need to clean this up, because they were tracking all sorts of things, like they're even tracking ice across multiple divisions. So they had an account chart of accounts called ice. So when they bought ice for their kitchen, they would track this expense there on this line item and then they would allocate it across the different business units, which is absolutely crazy, but they had line items for office supplies and office equipment and you know paper and copies and I mean it just got so detailed and so complicated that nobody could understand the story behind the numbers. And that's really what it comes down to.

Folks, I'm okay with having multiple accounts and multiple line items on your financial statements. However, if it's getting in the way of you understanding the story behind the numbers, that's when the problem arises. Also, when you think about thin ops financial operations within your organization, the more accounts you have, the more tracking you have, the more complicated it gets, which means more money. Or you can use cost more money just to do the basic bookkeeping and accounting for your organization. So this is the first thing that I do when I go into an organization from an accounting perspective is I look at their chart of accounts. So you can pull your chart of accounts out of your accounting software and look at the list.

And what I would recommend is go through the line items and I would pull this and make sure you have the balances corresponding to these accounts shown to the side so you can figure out how much you're tracking within each line item. So, for example, you may be tracking paper right, like if you buy paper for your copy machines or whatever it may be. You may have a line item, a separate line item, for that or postage or whatever it may be, but when you look at the balance in the spend over the given period, like, say, a year, you may realize that you're only tracking $150 for postage, and so therefore, I think you should take that as expense and lump it into a higher level account, maybe like office supplies or whatever it may be, because you don't wanna be tracking things on such a detailed level, like I said, that you miss the story behind the numbers. So if you're an entrepreneur or a business owner or a business leader, if you have financial responsibility within your organization, the first thing I would say is look at your chart of accounts and simplify it. Okay, simplify your chart of accounts.

Eliminate the accounts that don't add value. Now this is where some people get kind of freaked out when they get all anxious and they say, steve, well, if we get rid of the postage line item, like how are we gonna figure out how much we spend on postage? Well, I say, okay, well, you can have it as a sub account to a main account that rolls up to the financials, that's fine. But also if you just eliminate it and you just track it on a higher level, if you really need that detail, okay, if $150 spend per year is gonna really impact your decision making in the business and really impact the value of your organization, then sure I would say you can pull the detail out of that main account later on if you really really wanna track it. But don't get lost in the small things within business, because the value drivers usually they don't include small things such as that. Remember, the number one way to drive profitability within an organization is typically through price premiums Okay, price premiums, and then cost efficiencies and then overhead and then growth. All those things there are your value drivers and, trust me, like the small day-to-day little accounts that we track, aren't gonna really move the needle. So that's number one.

Number two the second financial mistake that most entrepreneurs make is not aligning financial reporting with economic reality. Now let me explain that because you may be wondering what the heck are you talking about? Okay, the three financial reports that you should be looking at as a business leader with financial responsibility in your organization include the income statement, the balance sheet and the statement of cash flows. The most important of those financial statements is the statement of cash flows because that will show you the ins and outs of cash and how it moves within your organization, within operating activities, investing activities and financing activities. Okay, so the statement of cash flows, remember, is like the income statement in the balance sheet. Got married and they had a baby. Their baby is a statement of cash flows, one of the most important financial statements. And remember, 70% of companies that go bankrupt, they're profitable. When they close their doors, this happens because they run out of cash. So looking at the statement of cash flow is really critical. The income statement measures a company's profitability and then the balance sheet measures a company's overall financial position and their health related to assets, liabilities and equity. Okay, so those are the three financial statements.

When I say they don't align with economic reality, I'm gonna specifically hone in on the income statement. Most income statements. They don't tell the economic reality because, when it comes to cost, costs are all just lumped in down below in operating expenses in a big old category, or that's one issue that I see. Or there's some costs that are up above and costs have been sold, but not all the costs related to the cost of selling goods or producing revenue are included up above. So then gross margin is skewed and really the economic reality of the business isn't really coming through on the income statement.

Okay, so now you may be wondering okay, steve, back up, you lost me there and let me explain this in a little bit more detail. Okay, remember, on an income statement. An income statement is a flow through always starts with revenue. Costs get sold in SG&A, which is your operating expenses, and you end up with profit at the end of the day. Remember that's my song. If you listened to earlier episodes, that's the income statement song. So let's break this down. Revenue always starts with revenue. Revenue includes money that you earn by selling your products and services. It's your sales. Okay, that's your top line revenue. That's the first category and most companies get this right. Sometimes they have too many revenue streams that they're tracking, but that's a whole different story. But most people get revenue. They get that right.

Where the issue on the income statement comes in is, like I said, with costs get sold the next section and OPEX operating expenses, and those two areas are commingled or they're not separated out correctly. So let me explain Cost of goods sold or cost of revenue, the same thing. Those are costs associated with delivering your product or service. Okay, now, I don't mean actually delivering your materials or supplies, like dropping it off at somebody's residence or business. I'm not saying delivery services, I'm saying delivering it to the end user. So if you're like me and you do consulting services, delivering my service to my customer means all the costs associated with delivering that final slide deck or those recommendations or doing that implementation of strategy or implementing software within organizations. That's the delivery of my service. So all costs associated with delivering a product or service need to go and cost for goods sold. Now, what do those items include? Well, it depends on your business, but some items include materials, direct materials, the raw materials that go into producing your product. You have direct labor, that's all labor associated with delivering your product and service.

Let me pause here real quick and dive into this in more detail. This is where most people get it wrong. Within QuickBooks or Xero or Oracle or whatever may be, sage, whatever software you're using, often times there's one payroll account and that hits overhead operating expenses down below. Well, your payroll needs to be broken out by payroll related to the people who are producing the product or service and then payroll related to just general overhead of the company, which may seem like a pain, but you have to do this because if you are a frontline worker and you are on the frontline serving customers, that is a cost associated with delivering the product or service, versus if you're an accountant or you work in the legal department or you're a marketing staff, that overhead should go down below and operating expenses. So you have to break this stuff out. If you don't break out your labor, then you're not going to understand the true economics of your business.

And what I'm really getting to is the gross margin that your company is able to produce before accounting for overhead. That's what we're trying to figure out. You have revenue, you have cost of producing that revenue and if I was looking at your business, I would want to see how much gross profit, how much profit do you earn after selling your product and incurring the cost to give that product to the customer? And then we'll look at overhead and then we'll look at net operating profit. Okay, so there's a huge distinction there.

So other things that go up in cost we get sold. So we talked about materials, we talked about direct labor. You may include things like contract labor or subcontractors, if you use those, and then any expense related to equipment. Maybe you have equipment in your business. I'm not talking about the acquisition of the equipment Remember that goes on the balance sheet but I'm talking about the maintenance related to servicing, keeping that equipment in use. So all those costs need to go into cost of goods sold because you want to have the equipment if you didn't have the revenue.

And that's a simple way to look at it too is when you're looking at costs and you're trying to determine whether or not they go up and cost of goods sold or in operating expenses. Just ask yourself that If I had no work today, if there's no work going on, theoretically would I be incurring cost. If you incur costs, regardless of whether or not you have work, that's an operating expense. If you pay your utilities because you have to heat the building and turn the lights on in your building, regardless of whether or not you do work for customers, then that's an operating expense. If the cost is directly correlated to the work, meaning you need to hire employees and pay them an hourly rate to deliver services and goods to end users, then that's a cost of goods sold. You want to just be buying materials for fun sake. So instead, if you're buying materials that go into a product or service, then that's a cost of goods sold as well. Any other costs like permits or licenses or small tools or anything related to producing your products and services should go up and cost of goods sold. So that is what I'm talking about when it comes to economic reality.

Because if you don't understand this, if you don't have a really clean gross margin, which is revenue minus cost of goods sold, then you're tricking yourself, especially when it comes to setting your pricing. How the heck are you going to set your pricing if you don't even know what your margin is? How are you going to determine your break even point in your company if you don't understand what your true gross margin is? So that's what I mean. There are too many companies. They look at their gross margin and they're skewed. Either they have too many costs up in cost of good soul that are not related to producing revenue, or the opposite is true. But whatever it may be, make sure you get this right, and I could tell you, even the best companies have a few accounts that are incorrectly categorized. So I would make sure that you have this straight within your business, and this is going to be super important when it comes to aligning economic reality with your financial reporting.

Okay, number three is that entrepreneurs oftentimes confuse profit for cash flow. If you look on your income statement, you will see at the bottom Profit. Okay, net operating profit, net income, whatever you want to call it but ultimately it's revenue minus all your expenses and that equals profit. Now, where business owners go wrong is that they'll just look at the income statement and if they're showing a profit on the statement, then they think all as well. However, remember, like I said, 70% of companies that go bankrupt are profitable when they close their doors.

This happens because, below profit and to get the free cash flow, you have changes in working capital. In simplistic terms, working capital is current assets minus current liabilities, or the money that your customers owe you and the money that you owe your vendors. Those are the two primary accounts. There are other accounts too, but that's ultimately what your working capital is. So you have changes in working capital and then you have capital expenditures, which is investments in property, plant and equipment the money you spend on capital expenditures like property, plant and equipment. Okay. So when you have profit and you account for changes in working capital and capital expenditures, you end up with cash flow.

And cash flow is what it comes down to, because you could show a profit on your income statement but not have any cash. So when I'm working with entrepreneurs, oftentimes they say to me Steve, look, you know like I'm showing a 300,000-dollar profit, but we have like 20 grand in the bank. What the heck is going on? And that's what I'm talking about there. Changes in working capital is really important to understand. I did a whole podcast episode on this about what working capital is, so make sure you check that out if you want to learn more About what working capital is. But you should really understand what it is it's. It could be a confusing topic for most people, but I break it down really simply in that other episode, so be sure to check that out. Okay, so don't confuse profit for cash flow. Profit is not cash flow. Looking at your bank balance, that's not cash flow. That's your cash balance as of a certain date, but it doesn't account for all the other expenditures that are already going out the door, the pending transactions, so don't let that confuse you either. In order to understand cash flow.

You have to have a great forecast, and this is where a lot of companies go wrong. Most businesses have a budget and the budget is constrained to a calendar year. It goes from January through December and Once a year business owners or business leaders they create a budget for the next year and then they rolled out the beginning of the year and that's their budget. Okay, that process is so broken. Instead, you have to have a rolling forecast, and the rolling forecast is good If it gets you down to profit. It's even better if you're forecasting down to cash flow. But you should have a forecast that is rolling, and I help organizations with this all the time because it's a little bit more complicated. But once you get a process in place, never again do you have to do the annual budget process because you always have a rolling forecast. In other words, one month drops off, the next month is already on there and you have this Insight into the future. So for the companies that I work with, I like to build out 24 month Rolling forecast so you can always get some type of picture 24 months out into the future. So this is really really critical. Okay, number four Combingly funds.

This is a big financial mistake that most entrepreneurs make. Here's an example a company may have a property and this property is where they have their office, and maybe the property is set up in another LLC, which is good if an entrepreneur does this, and then the primary business rents space from this LLC. This actual building problem comes in is if the operating company, instead of cutting a check or sending funds to the other LLC that owns the property, if they pay the mortgage out of the main business or they co-mingle funds, they pay for some things and there's not a clear lease agreement between the two entities. That could be a problem Number one. If there's ever a lawsuit or a liability that comes your way and you're trying to protect against that liability through these entity structures, well people can pierce that entity structure if you're not separating out these companies and running them independently. That's one thing.

Another way people co-mingle funds is they have their personal accounts and their business accounts and they're kind of using a personal card and a business card and it's just getting mixed together. So I would highly recommend that you dedicate certain credit cards or certain accounts business accounts only to your business and never co-mingle funds. And if you happen to use your personal credit card for something, make sure that gets tracked in your accounting software and you get reimbursed at some point from the business. So keep everything separate. If you co-mingle funds meaning you have your business funds and your personal funds in one account or on one card it's a really bad practice to get into and it could be really harmful moving forward into the future.

Okay, number five the fifth financial mistake that most entrepreneurs make is not having a clear review process. Here's the cool thing about entrepreneurship you can't fake entrepreneurship. You can't fake it because every single month you get a report card on how you're doing and that report card is also known as a financial statement. Okay, so every month you get to look at the income statement and you get to determine whether or not you're making money. You get to look at a balance sheet every single month to determine how much you have in assets, liabilities and equity. You get to see them in. A cash flow is to see how much cash is flowing into your business. So these report cards tell you whether or not you're performing successfully in your organization.

So having a process and I would recommend meeting in the third or fourth week of every month after the financial closed to review the prior month's financials and during this process, you're gonna look at those three financial statements and, if you have a dashboard with key performance indicators, kpis, that would be a good time to discuss the performance of the month the prior month. So this isn't a meeting to just review the past. Instead, it's to look at the past to see how you're performing, what worked well, what didn't work well, and then put in place action steps in order to drive your strategic initiatives forward. So essentially, what you're doing is you're hypothesizing. Every month you're saying, hey look, our gross margin is declining every single month for the last three months by 20%. We think if we go in and change our pricing, we can reverse this trend. Okay, that's your hypothesis. Then you go out there and execute and then you come back and you measure the new financial performance based on these action steps that you took. So that's the whole process of build measure learn. You go into these meetings, you look at the financial statements, you review your strategy. You're trying to determine what's working well, what's not working well, what adjustments do you need to make, what action steps do you need to take out there in the world to go, execute, to drive greater financial performance. And then you get the report card and you see where you need to make improvements and it's just this iterative cycle.

Most companies don't have this review process or it's not solidified. They do it willy-nilly here and there, but they don't have this formalized structure. So I'd recommend just setting a date, scheduling out for the entire year, communicate that to everybody through a calendar, invite or however you do it, so it's on everybody's calendar. There's accountability there and you go out there and you do this every single month and it's gonna drive better results and it's gonna hold people accountable to this culture of being results driven. It's very powerful. So those are the five common mistakes that I see over and over again with entrepreneurs. There's many more, but those are the five main financial mistakes that companies make.

Let me just do a quick recap. Number one having an overly complicated chart of accounts. So make sure you go through your chart of accounts. You eliminate things that aren't really adding value to track. So just consolidate, simplify and just really streamline that whole process.

Number two not aligning the financial reporting of your company with the economic reality of what's actually going on out there in the world. Remember it's not about just knowing the numbers, or it's not about just reading a financial statement, it's understanding the story behind the numbers. What story are those numbers telling you and what actions do you need to go take in order to change that story or enhance that story? So aligning those two things is really critical. And most important is making sure that you have your costs of goods sold in the right category and your op-ex, your operating expenses those are clearly defined so you can truly understand things like your break-even point and your pricing structure. Number three confusing profit for cash flow. Those are not the same thing. Don't confuse yourself. Make sure you have a good financial forecast that's rolling, so you can understand what does the future look like in regards to profitability and cash flow within your business.

Number four co-mingling funds. Don't co-mingle your funds. If you have separate entities, make sure you track expenses and revenue for those entities independently. Make sure you have agreements between these entities if they're transacting between one another and, most importantly, make sure you have separate bank accounts and credit cards and funds are not being co-mingled and mixed up, especially when it comes to your personal and business expenses. Number five the last one is ensure you have a financial review process every single month where you're looking at your strategy and your financial performance with yourself or with key people on your team, so you can create this culture of accountability and you could drive better results.

Like I said, those are the five mistakes that I see. If you're an entrepreneur and you want help in this area of your business, if you wanna talk to me about any of this stuff, hey, reach out. You could reach out to me at any time. Steve at BYFIQcom is my email. I'd love to hear from you and I'm happy to walk you through anything that's on your mind or if I could be a help to you and your organization.

Trust me, this is the kind of stuff that I get all passionate about. I love this stuff, but anyways, hopefully those are five things that will point you in the right direction. And if you're doing these five things already, great, that's just solidifying the fact that you're on a good path and you're moving forward in the right direction. If you have a few of these areas where you're really struggling, make sure you strengthen these areas before you move forward, because if you try to grow and you don't have these things in place, you could really grow yourself out of business. So you have to be very careful there. Okay, thanks for tuning in to another podcast episode. Keep learning ambitiously, make sure you have that boost in your financial IQ app on your phone and you're checking it regularly and you're staying connected to the community. And that's all I have, folks. So take care of yourself and have an excellent week. Cheers.