Companies around the world are working the same way. They go into business, manage their expenses and try to make a profit. It's a proven concept that can be applied to personal finance as well. Think of yourself as your own small business. To keep your business running smoothly, you need to look at your books. Exploration starts with comparing your income and expenses. In this article, we'll show you how to apply money management concepts for businesses to your own financial situation.
Most start-up companies are not profitable. Your initial funding is spent to get the business up and running. The clock is ticking, and running out of money before you make a profit is worry no. 1. The rate at which a new company is spent is called the burn rate Designated. By tracking the rate at which money is being burned, it's easy to tell how long the company can survive. (To learn more about burn rates, read Don't get burned by burn rate.)
Applying this concept to your personal finances is simple. Think of your paycheck and consider it the seed money for your retirement, as reaching retirement with a decent amount of money in the bank is your ultimate goal. If you "burn" your money too quickly, you won't have more left for your savings and you'll likely go right into debt if you dip into your existing savings. (Learn more about saving for retirement in Retiring in Style , Setting Your Post-Work Income and How to Become a Millionaire .)
If you net $50, 000 a year and spend $55, 000, you are working at a $5, 000 loss. How long could you possibly last if you burn through $5 each year.000 in cash burn? Not very long! Unless you have a huge stash of cash in the bank.
At first glance, you may think it's unlikely that you're spending more than you earn, but easy credit and bad habits have put more than a few people in this category. It's also too easy for many to dip into their savings when a new product or service becomes available.
If you buy something on credit, you can't just count the minimum payment as an expense. You have spent the full amount. The minimum payment is just a punishment for your mistake. To get your personal retirement on track, you need to put your money into investments, not credit card payments. Lowering your burn rate is the key to making it happen. Eliminating purchases that result in spending more than you earn is an important step in the right direction in reducing your burn rate. (Continue reading about credit in Control your credit cards , credit, debit and fees: Sizing the Cards in Your Wallet and Understanding Credit Card Interests.)
In the corporate world, there are two types of profit margins: Gross and Net. Gross profit is your profit before taxes. Net profit is the after-tax number. In the personal finance world, net income is what matters most.
The first step in determining your profit margin is to evaluate how much money you make per month. The next step is figuring out how much you spend. The expense category includes everything – the big things like mortgage/rent, car payments, credit cards and the little things like dinners and movies. You need to subtract expenses from income to get the number that represents your profit, or what you could put toward your savings.
Also, just because you have enough money left over at the end of the month to make your car payment, dine at a fancy restaurant, and have those daily cups of expensive coffee, doesn't mean your business is in good shape .. To further evaluate your situation, you need to look at what happens to the money you have left over.
What is your profit margin?
Say you earn 50.000 $ per year and you spend 47.$500 per year off. By subtracting expenses from income, you come out with net gains of $2, 500.
When you divide net profit by net profit, you get your profit margin. This is $ 2, 500/50, 000 = 0. 5. Multiply the 0. 05 with 100, to get the number in percent. That is 0. 5 x 100 = 5%.
Why are you in business?
Look at your profit margin. You've worked all year to earn it, and now it's time to see the results. Your net profit is the net accumulation of all your efforts. Are you satisfied with the number? Is that enough? Is this the number you had hoped and planned for? Will your company survive on this number? (For more information on budgeting, see How Budgeting Works for Business , The Beauty of Budgeting and Ten Tips for Achieving Financial Security
On the companies would not be so impressed if the company was only making a 1-2% profit margin. The bigger the profit margin, the more attractive the business is. So you have to ask yourself again if your profit margin is good enough.
To answer this question you need to have a goal. Know how much money you need to make your retirement dreams a reality. If you don't know the number yet and how much you need to save during your working years to reach it, now is the time to find out.
Improve your profit margin
After you've determined your profit margin and retirement goal, it's time to make some adjustments. If your profit margin doesn't bring in enough revenue to fund your retirement plan, it's time to cut back on your expenses. Take a look at all your expenses discovered in your burn rate and see what you really need and what expenses can be easily saved on. You'll often be surprised.
If your margin is reasonable, getting a raise will increase your plan and may even help you reach your goal early.Being financially free can be a great feeling, so why not get there as early as possible?
Unlike investors, businesses are not emotional. A solid business should make a profit. Simply paying the bills and scoring is not good enough. In your personal life (your own small business), just paying the bills is not enough to reach your ultimate goal. Simply paying today's bills will not fund your retirement. Get behind the emotion, focus on the numbers and go about it the same way a company goes about its business. It is a reasonable plan that has worked for millions of businesses and more than a few savvy investors.