Audit Checklist for the Growing Business
Small businesses often fail because owners are unaware of the many elements that can prevent the business from growing and being successful. Often, small businesses are organized around the manager’s specific area of expertise, such as marketing, accounting or production. This specialized expertise often prevents the business owner from recognizing problems that may arise in other parts of the business.
This publication will provide the small business entrepreneur with the essentials for conducting a comprehensive search for existing or potential problems. The audit was designed with small businesses in mind and addresses their unique problems and opportunities.
DESIGNING THE AUDIT
As the first step in determining what small business owner-managers need to know, the authors analyzed 900 Small Business Institute (SBI) student counselors’ case reports.1) This analysis showed that the small businesses used
consultants to help them obtain essential information for conducting many of their business
affairs, such as basic planning, general business practice, accounting, finance and loan procurement, advertising and promotion, market research, feasibility studies and operations.
Next, 50 Small Business Development Center (SBDC) client cases were selected at random – 5 to 6 cases from each SBDC for an in-depth probe. The SBDCs provide, through paid staff and faculty coordinators, in-depth counseling to small businesses.2) Like the SBI program, SBDCs generate a client case report that details the current operations of the business and recommendations for improvement.
The authors have combined case evidence, logical procedures, expert advice and systematic thinking to create a management audit for small businesses. This instrument is not exhaustive, i.e., the business owner/manager still must rely on personal judgment and past experience. However, it does provide a systematic frame- work to ensure that critical areas have been addressed before action is taken. The audit is a tool, not a replacement for good management skill. Audits and handbooks cannot do the consultant’s job; however, effectively designed instruments, such as this audit, can save valuable time for the seasoned as well as the novice small business manager.
In their review of management literature the authors did not find an audit instrument that addressed the needs of small businesses. They studied actual SBI and SBDC case reports to find out what management practices were being used by small business, and used that information to create this audit.
1) The SBI program is a contractual arrangement between the U.S. Small Business Administration (SBA) and 530 local colleges and universities to provide in-depth counseling by senior under- graduates and graduate students to small businesses. A faculty director manages the program and coordinates the students. The students counsel a small business for a semester and then write a comprehensive report detailing the operations of the business and their recommendations for improving the business.
2) SBDCs are sponsored by the SBA in partnership with state and local governments, the educational community and the private sector. They provide assistance, counseling and training to prospective and existing business owners. There are more than 500 SBDC service locations in 42 states.
HOW TO USE THIS AUDIT
In order to gain maximum effectiveness from this audit, the small business manager should answer all questions in the audit, with an affirmative answer indicating no problem and a negative answer indicating the presence of a problem in a specific area.
After completing the audit, the manager can review the analysis of each section of the audit that follows (in the management audit analysis section) to determine what action is most appropriate. The audit analysis provides an overview of how the various elements of the audit are related. The authors have linked the seven critical business functions basic planning, general bookkeeping and accounting practices, financial planning and loan proposals, sales and marketing, advertising and promotion, personnel and production under three major audits: the management audit, the operations audit and the financial audit, as outlined in Figure 1.
In the healthy and financially sound small business, these seven functional areas are in balance. In many cases, one cannot work on all seven areas at once. The manager must decide which area to concentrate on based on past practices and the needs of the business. Regular use of this audit instrument can help make the small business manager more efficient.
* Figure 1 – Audit Checklist *
* for Growing Businesses *
* THE MANAGEMENT AUDIT *
* – Basic planning *
* – Personnel *
* THE OPERATIONS AUDIT *
* – Production *
* – Sales and marketing *
* – Advertising and promotion*
* THE FINANCIAL AUDIT *
* – General bookkeeping and *
* accounting practices *
* – Financial planning and *
* loan proposals *
THE MANAGEMENT AUDIT
I. Basic Planning
A. The company has a clearly defined mission. —– —–
1. There is a written mission statement. —– —–
2. Company is carrying out the mission. —– —–
3. Mission statement is modified when necessary. —– —–
4. Employees understand and share in the mission. —– —–
B. The company has a written sales plan. —– —–
1. Market niche has been identified. —– —–
2. New product lines are developed when
appropriate. —– —–
3. Targeted customers are being reached. —– —–
4. Sales are increasing. —– —–
C. The company has an annual budget. —– —–
1. Budget is used as a flexible guide. —– —–
2. Budget is used as a control device. —– —–
3. Actual expenditures are compared against
budgeted expenditures. —– —–
4. Corrective action is taken when expenses
are over budget. —– —–
5. Owner prepares budget. —– —–
6. The budget is realistic. —– —–
D. The company has a pricing policy. —– —–
1. Products or services are competitively priced. —– —–
2. Business provides volume discounts. —– —–
3. Prices are increased when warranted. —– —–
4. There is a relationship between pricing
changes and sales volume. —– —–
5. New prices are placed on last-in goods when
the price on old stock gets changed. —– —–
A. Employees know what is expected of them. —– —–
1. Each employee has only one supervisor. —– —–
2. Supervisors have authority commensurate with
responsibility. —– —–
3. Employees volunteer critical information
to their supervisor. —– —–
4. Employees are using their skills on the job. —– —–
5. Employees feel adequately trained. —– —–
B. Each employee has a job description. —– —–
1. Employees can accurately describe what they do. —– —–
2. Employees do what is expected. —– —–
3. Work load is distributed equitably. —– —–
4. Employees receive feedback on performance. —– —–
5. Employees are rewarded for good performance. —– —–
6. Employees are familiar with company policies. —– —–
7. There is a concise policy manual. —– —–
C. Preventive discipline is used when appropriate. —– —–
1. Employees are informed when performance is
below standard. —– —–
2. Unexcused absences are dealt with immediately. —– —–
3. Theft prevention measures are in place. —– —–
D. Regular employee meetings are conducted. —– —–
1. Employees’ ideas are solicited at meetings. —– —–
2. An agenda is given to employees prior to
the meeting. —– —–
THE OPERATIONS AUDIT
A. The company has a good relationship with
suppliers. —– —–
1. A well-documented plan addresses how to
deal with suppliers. —– —–
2. Inventory delivery times are specified. —– —–
3. Levels of quality of materials and services
are specified. —– —–
4. Payment terms are documented. —– —–
5. Contingency plans are provided. —– —–
6. Regular contact is made with suppliers. —– —–
B. The company provides for good inventory
control. —– —–
1. Company has an inventory control formula
to provide for optimum inventory levels. —– —–
2. Company has a policy on securing inventory
in a timely fashion. —– —–
C. The company conducts incoming inventory
inspections. —– —–
1. Company has a written policy on incoming
inspection. —– —–
2. Incoming inspection is being performed. —– —–
3. Incoming inspection levels of quality
are documented. —– —–
D. The company has alternate sources of
raw materials. —– —–
1. Two or more suppliers are identified
for each product needed. —– —–
2. Majority of raw material requirements
are divided equally between two major
suppliers with a third source receiving
lesser but consistent orders. —– —–
E. The company has a routine maintenance
program. —– —–
1. A routine maintenance program is docu-
mented and communicated to all main-
tenance personnel. —– —–
2. Every major piece of equipment has a
maintenance log positioned in an obvious
place. —– —–
3. Preventive maintenance is a regular
occurrence. —– —–
F. The company has a formal operator
training program. —– —–
1. Company has a written operator training manual. —– —–
2. A progressive training process is in place. —– —–
3. Accomplished operators are identified to
answer questions from trainees. —– —–
4. Constructive feedback on training progress
is provided in a nonintimidating fashion. —– —–
G. The company meets Occupational Safety and
Health Administration (OSHA) standards. —– —–
1. Company is aware of OSHA standards pertaining
to the business. —– —–
2. Company conducts regular meetings with
employees concerning OSHA standards. —– —–
3. All safety records and lost time accidents
are documented. —– —–
H. The company has a well-documented
processing procedure. —– —–
1. A scheduling process enables orders to be
grouped for more efficient processing. —– —–
2. A scheduling chart allowing instantaneous
recognition of production status is in an
obvious place. —– —–
3. Subassemblies are manufactured in suffi-
cient quantities on a timely basis. —– —–
4. Finished stock is safely transported to
a clean and dry area. —– —–
5. Adequate controls are provided to preclude
excessive inventory buildups that could
result in finished stock spoilage or ob-
solescence. —– —–
I. The company has an environmental aware-
ness policy. —– —–
1. A policy pertaining to the disposition
of hazardous waste materials is fully
documented and communicated to all pertinent
parties. —– —–
2. Attempts are made to stay current with all
existing regulations pertaining to the
environment. —– —–
3. Regular meetings are conducted to determine
better methods of dealing with by-products. —– —–
J. The company attempts to stay current with
technological advances. —– —–
1. Company representatives attend trade shows
on a regular basis. —– —–
2. Company subscribes to trade publications. —– —–
3. A formal employee suggestion program is
in place. —– —–
4. Company conducts regular technology advance-
ment brainstorming sessions involving the
employees. —– —–
5. Company is involved in the community’s
extended learning programs. —– —–
II. Sales and Marketing
A. The owner knows exactly what the business is. —– —–
1. The owner knows exactly who the customer is. —– —–
2. Potential customers know about the business. —– —–
3. Location is appropriate for the business. —– —–
4. The market is clearly defined. —– —–
B. The owner knows competitors and their location. —– —–
1. The owner knows how his or her prices compare
with the competitions’. —– —–
2. The owner knows how the competition is
regarded. —– —–
3. Census data are used for strategic marketing. —– —–
4. The owner knows the county sales patterns. —– —–
C. The owner and employees focus on customer
needs. —– —–
1. The owner and employees treat customers
courteously. —– —–
2. The customer’s concerns, complaints and
suggestions are listened to carefully. —– —–
3. Customers are provided with quick,
reliable service. —– —–
4. The owner is considered knowledgeable
by customers. —– —–
5. Appropriate housekeeping procedures for
the business are followed. —– —–
D. The owner is aware of customer needs. —– —–
1. Feedback is requested from customers. —– —–
2. Sales receipts are monitored. —– —–
3. Sales receipts are compared to those
from previous years. —– —–
4. Seasonal variations are taken into account. —– —–
E. The company needs to increase sales volume. —– —–
1. There is a sales plan in effect. —– —–
2. Sales goals are being met. —– —–
3. Effective sales presentations are being
made to potential customers. —– —–
4. Names of prospects are kept in a follow-up
file. —– —–
5. Sales are closed effectively. —– —–
III. Advertising and Promotion
A. The owner has an advertising and
promotion plan. —– —–
1. Has an advertising budget. —– —–
2. Advertises monthly. —– —–
3. Advertises weekly. —– —–
4. Has a promotional calendar. —– —–
B. The owner uses effective advertising
and promotion. —– —–
1. Advertises in the Yellow Pages. —– —–
2. Uses newspapers and “shoppers.” —– —–
3. Uses radio and television advertising. —– —–
4. Obtains no-cost or low-cost media coverage. —– —–
C. The owner uses effective merchandising
techniques. —– —–
1. Relates display space to sales potential. —– —–
2. Uses vendor promotional aids. —– —–
3. Knows traffic flow patterns of customers. —– —–
4. Keeps facilities clean. —– —–
D. The owner evaluates advertising and
promotional efforts. —– —–
1. Determines if sales increase with advertising. —– —–
2. Ascertains if sales increase after special
promotion. —– —–
3. Finds out whether advertising is reaching
intended market. —– —–
THE FINANCIAL AUDIT
I. General Bookkeeping and Accounting Practices —– —–
A. The company has a bookkeeping system. —– —–
single entry —– double entry —–
1. Prepares the books. —– —–
a. Understands the how and why. —– —–
b. Prepares own financial statements. —– —–
2. Pays for bookkeeping service. —– —–
a. Understands financial statements. —– —–
b. Has taxes done by bookkeeper. —– —–
c. Has compared cost for bookkeeper
with that of a CPA. —– —–
B. The company reconciles bank statements
monthly. —– —–
C. The company keeps income and expense
statements accurate and prepares state-
ments monthly. —– —–
1. Understands purpose of financial statements. —– —–
2. Compares several monthly statements for trends. —– —–
3. Compares statements against industry averages. —– —–
4. Knows current financial status of business. —– —–
D. The company makes monthly deposits for
federal withholding and Social Security taxes. —– —–
1. Understands Form 941. —– —–
2. Makes deposits on time to avoid penalties. —– —–
3. Provides W-2 information. —– —–
E. The company has a credit policy. —– —–
1. Ages billing system monthly. —– —–
2. Accesses late payment fee from customers. —– —–
3. Writes off bad debts. —– —–
4. Has good collection policies. —– —–
5. Has a series of increasingly pointed
letters to collect from late customers. —– —–
6. Has VISA, MasterCard, or other credit
card system. —– —–
7. Emphasizes cash discounts. —– —–
F. The company files all tax returns in a
timely manner. —– —–
1. Considers tax implications of equipment early. —– —–
2. Considers buy versus lease possibilities. —– —–
3. Considers possible advantages/disadvantages
of incorporation/Subchapter S. —– —–
4. Does not pay tax penalties (federal, state,
sales). —– —–
II. Financial Planning and Loan Proposals
A. The company has adequate cash flow. —– —–
1. Prenumbered cash receipts are monitored
and accounted for. —– —–
2. Checks are deposited properly each day. —– —–
3. Customer invoicing is done promptly
(within two working days). —– —–
4. Collections are received within 60 days. —– —–
5. Accounts payable take advantage of
cash discounts. —– —–
6. Disbursements are made by prenumbered check. —– —–
B. The company projects cash-flow needs. —– —–
1. Payrolls are met without problems. —– —–
2. Money is set aside for expansion,
emergencies and opportune purchases. —– —–
3. Short-term financing is used when needed. —– —–
4. Line of credit is established with a bank. —– —–
C. The company understands the role of
financial planning in today’s highly
competitive lending markets. —– —–
1. The owner’s personal resume is prepared
and current. —– —–
2. Personal financial statements have been
prepared. —– —–
3. The business has a written business plan. —– —–
4. Source and use of funds statements exist
for the past two years, with a projection
for the next two years. —– —–
5. An accurate balance sheet exists for
the past two years and includes a pro-
jection for the next two years. —– —–
6. The owner has a good working relation-
ship with a banker. —– —–
7. There is a strong debt-to-equity ratio
(1:2/1:1). —– —–
MANAGEMENT AUDIT ANALYSIS
I. Basic Planning
A. Company (Business) (Owner) has a clearly
“What business are we in?” is a question that
created a major problem for many of the cases
analyzed by the authors. Too often owners/
managers cannot communicate their vision to
customers, employees and/or bankers because
they don’t have a vision. To make a profit or
To provide myself employment is not an opera-
tional answer to the question, although these
may be true statements and may be the reasons
the owner(s) went into business in the first
place. A good mission statement tells why the
business exists and defines its market niche.
The mission statement is the foundation, upon
which the business is built. Like a good foun-
dation, it need not be fancy, but it must be
1. There is a written mission statement.
This is an essential element of a good loan
application. Written mission statements are
also useful for communicating to customers,
employees and suppliers. They are the back-
bone of strong marketing and promotion efforts.
2. Company is carrying out the mission.
If a company cannot execute its mission, it is
probably losing money and certainly not maximiz-
ing profits. If it is not accomplishing its mis-
sion, the owner-manager must ask why. Maybe the
mission is unrealistic. Possibly the competition
is doing a better job of accomplishing that same
3. Mission statement is modified when necessary.
Often a realistic change of mission can turn a
losing business into a profitable one. An example
of this is a restaurant that redefined its mis-
sion as that of a catering service, thereby ac-
complishing the owner’s personal goal of making
a good living.
4.Employees understand and share in the mission.
Confused employees, pilferage and poor customer
relations are the result of employees who do not
understand the mission of the business and how
they fit into it. A clear mission shared with
employees results in high employee morale and
B. Company has a written sales plan.
A written sales plan is essential for an effec-
tive marketing effort. It provides specific di-
rection for the business and it is inextricably
linked to marketing success. The plan should de-
tail sales goals by month and describe the spe-
cific efforts to be undertaken to ensure that
those goals are reached. Pricing policies should
be a part of the plan, along with a brief de-
scription of product distribution channels. The
most compelling reason for sales planning is
that it is essential to sound cash-flow management.
1. Market niche has been identified.
Very few business opportunities are new and ori-
ginal. Because of this, it is essential for small
businesses to find an appropriate, unique market
niche to be successful. The niche they fill may
have to do with the service provided, its quan-
tity or quality, the personal attention to cus-
tomers’ needs or simply the business location.
Analysis of the SBI cases showed that many of
the more successful businesses had defined their
market niche by their location.
2. New product lines are developed when appro-
All products and services eventually become ob-
solete. Keeping in touch with your customers’
tastes and preferences and your changing market
characteristics is essential for survival. Ob-
taining feedback from current customers often
leads to new product or service ideas. Well-
placed suggestion boxes or market surveys pro-
vide more systematic means of gathering such
3. Targeted customers are being reached.
It is important to reach the intended customers.
Quite often sales can go up, but will not bring
in extra profits. Not all customers are equal.
Some customers cost more to service than others
because of their distance from the primary place
of business or because of their unique needs.
4. Sales are increasing.
If problems exist, they may be due to pricing
structure, change in market demands, new com-
petition, poor quality of product or service,
poor or inadequate advertising or planning,
problems with personnel or market saturation.
C. Company has an annual budget.
The annual budget is the simplest means of di-
recting and controlling a small business. It is
the one planning tool essential for effective
operation. The annual budget links the business
plan to business reality because it not only pro-
jects the business’s direction, but is a means
of tracing the flow of money into, through and
out of the business and helps the owner deter-
mine how to use scarce resources. By comparing
actual results with projections, the owner is
able to evaluate the effectiveness of various
business activities. Not having and not using a
budget is a common reason for cash flow problems
and subsequent business failures.
1. Budget is used as a flexible guide.
The budget does not represent business reality-it
is merely a map describing where the business is
going. A major mistake that often occurs with the
budgeting process is thinking that money alloca-
ted to a certain expenditure actually exists in
the bank. Effective business owners constantly
check the budget against operational reality and
make changes in the budget as needed. Flexible
budgeting in response to actual business perform-
ance is the mark of a shrewd businessperson. Too
rigid adherence to the budget often leads to poor
profit performance and even bankruptcy.
2. Budget is used as a control device.
Controlling expenditures is essential if a profit
is to be realized. The budget is the single most
important device available for monitoring and con-
trolling expenditures. Any business will eat up
3. Actual expenditures are compared against bud-
Monthly and annual expenditure comparisons must
be made for both control and flexibility pur-
poses. It is the only way critical decisions
and corrective actions can be planned and then
taken. If the owner-manager is constantly put-
ting out fires, monthly comparisons are not be-
ing made nor are timely corrective actions
4. Corrective action is taken when expenses
are over budget.
Most small businesses get into financial trouble
because they do the right thing too late. Taking
timely corrective action is the mark of an ef-
fective business owner-manager.
5. Owner prepares budget.
An excellent budget prepared by an employee or
accountant is virtually useless if the owner is
not committed to it. Budget preparation educates
the owner to the realities of the business. Look-
ing at a budget prepared by another does not ed-
ucate the viewer. When the owner has someone else
prepare the budget, the control of the business
has been delegated to that person.
6. The budget is realistic.
The budget must be based on a realistic appraisal
of the business environment. Not taking the bud-
geting process seriously and dreaming about what
one wants to see is a sure sign of business fail-
ure. Realistic budgeting is a time-consuming and
demanding process, but it is the most effective
tool at the owner’s disposal for accomplishing
D. Company has a pricing policy.
Pricing goods and services is one of the most dif-
ficult problems confronting the small businessper-
son. Much has been written on break-even analysis
as a rational means of determining prices and pric-
ing policy. Too often the owner-manager looks at
his or her competitors and charges a fraction more
or fraction less than they do. This haphazard ap-
proach to pricing has been the ruin of many small
business operations. A well-written mission state-
ment, a unique market niche and a detailed budget
will help guide the owner-manager through the pric-
ing jungle. An effective pricing policy can be de-
termined only after the owner has decided specific-
ally what the business is, how it differs from the
competition and what the cash flow needs are. Pric-
ing should be determined through history and mis-
sion, not by accident.
1. Products or services are competitively priced.
Who is the competition? What is competitive? On
the surface these queries look easy, but analysis
of the SBI cases demonstrated that few owner-
managers knew who they were competing against.
For example, a small hardware store is not com-
peting with the chains, but with other small
hardware stores that offer the same products
and services. Services are harder to price than
goods. It is difficult for the buying public to
determine the fair price for services, and com-
parative shopping has much less effect in ser-
vice industries than it does in hard goods in-
dustries. A close look at pricing policies can
often move a business from red ink to black,
but this is a time-consuming activity area for
2. Business provides volume discounts.
Volume discounts are essential for large volume
purchasers of goods and services. Clear volume
discount policies save valuable time when dealing
with customers and can even give the small busi-
ness a competitive advantage.
3. Prices are increased when warranted.
Random price increases can drive away business
and destroy goodwill. However, when the budget
projections warrant, it is essential to make the
increases. Waiting too long to increase prices
can literally destroy a small business. This is
another reason monitoring the budget is essential.
4. There is a relationship between pricing
changes and sales volume.
If there is no direct relationship between pric-
ing changes and sales volume, the sale of a pro-
duct or service is relatively independent of its
cost. When this is the case, either the market
is saturated or the owner-manager should put a
major effort into advertising and promotion.
5. New prices are placed on last-in goods when
the price on old stock gets changed.
This should be obvious. When this is not being
done, it is usually an indication that good gen-
eral business practices are not being followed.
Other than planning, poor general accounting and
bookkeeping practices were found to be the major
cause of financial problems for the small busi-
ness cases studied.
A. Employees know what is expected of them.
Surprisingly, many employees do not know what
is expected of them. This appears to be true
even when the employees are family members. In
the SBI cases that dealt with personnel prob-
lems, this was also the case. Poor communica-
tions can result in arguments, hurt feelings
and poor performance. Despite all that has been
written on the importance of good communica-
tions in business, it is still a major problem.
1. Each employee has only one supervisor.
In most of the SBI cases that dealt with person-
nel issues, the major problems occurred when em-
ployees did not know who their boss was. The
owners also were very confused about who reported
to whom. A simple organizational chart can quick-
ly solve this problem. It is important that every
employee have only one boss; two bosses often make
contradictory demands that make it impossible for
the employee to do either job effectively. This
creates ill will and destroys teamwork and pro-
2. Supervisors have authority commensurate with
Too often a supervisor has responsibility without
the proper authority. This undermines the supervi-
or and confuses the employees. When owners do not
delegate the necessary authority, they destroy
their own profits. Often the ability to delegate
authority properly has not been learned by small
business owners. The cause of poor delegation is
often simply the result of poor planning. Clearly
thinking through the mission and purpose of the
business and establishing achievable goals is an
important part of delegating effectively.
3. Employees volunteer critical information to
When employees volunteer critical information to
supervisors, it indicates the presence of trust
between employees and management. When critical
information is not volunteered and the owner is
blindsided by unexpected problems, it becomes es-
sential for the owner and supervisors to work on
developing trust. Sharing information and asking
for feedback are two very simple things the owner
can do to improve communication and productivity
in the business.
4. Employees are using their skills on the job.
Employees who have skills that are not being used
are a wasted resource that the businessperson can-
not afford to lose. Too often employees are not
being used effectively because the owner is poor
at communicating and especially poor at listening.
Employees who are not contributing but have the
skills to do so also become a morale problem and
cause other employee problems.
5. Employees feel adequately trained.
Too many of the employees in the SBI cases did
not have adequate training to do their jobs. The
causes were numerous, but one major cause iron-
ically had to do with a too-rapid growth of the
business. Another major problem was poor hiring-
the owners lacked knowledge about what was re-
quired to do the job effectively.
B. Each employee has a job description.
Most of the companies in the study did not have
job descriptions for employees. A good job de-
scription simplifies hiring, placement and train-
ing of employees and improves communication. It
is impossible to have a good job description if
the owner has not done a good job of planning.
1. Employees can accurately describe what they do.
Being able to communicate what one does at work
is essential to effective job performance. It de-
velops pride, increases motivation, reinforces
high performance and simplifies decision making.
2. Employees do what is expected.
When employees are not doing what is expected, it
is generally the owner’s fault, and it is a sure
sign of poor communication. Often employers cannot
communicate their expectations because they don’t
know what is expected either. This problem can be
solved only by effective planning and communica-
3. Work load is distributed equitably.
The perception of inequitable work loads destroys
morale and productivity. Good planning, clear job
descriptions and effective communication will go
a long way toward ensuring equitable work loads
in a business.
4. Employees receive feedback on performance.
Without feedback an employee cannot change or
even know that change is required. Feedback
does not cost the owner anything, and it is
the single most powerful tool available for
improving poor performance.
5. Employees are rewarded for good performance.
Rewarding employees for good performance – whether
financially or simply verbally – is the best way
to obtain quality performance. However, if the
owner doesn’t know what good performance is, there
is no way to reward it.
6. Employees are familiar with company policies.
Too often policies are in the owner’s head and
are not written down and distributed to employees.
This creates numerous problems for both the owner
and employees. There is only one solution. Poli-
cies must be written and owners must make certain
that employees understand them.
7. There is a concise policy manual.
Manuals must be short, simple and understandable.
Massive policy manuals accomplish nothing because
they are unusable. Having no policy manual, on the
other hand, is also a problem. Stacks of papers
that aren’t easily found or policies that are not
written down put the employee in an impossible
situation. Good policies that meet the needs of
the business simplify decision making and lead
to smoother operation.
C. Preventive discipline is used when appropriate.
Too often, the owner wants to be a nice person
and avoids discipline when it is needed. Preven-
tive discipline can take place only after the
owner has communicated expectations and provided
direction and adequate training. However, when an
employee continues to perform poorly after the
owner-manager has done what can be done, disci-
pline is imperative. Not disciplining an employee
when appropriate causes performance problems,
just as overdisciplining does.
1. Employees are informed when performance is
Poor performance will not improve on its own.
The first step is to inform the employee of
poor performance. If this does not improve the
situation, state the performance problem and
what is expected in writing, so that the em-
ployee understands the seriousness of the sit-
uation. If this still doesn’t work, and the em-
ployee is properly trained, immediate discipli-
nary action should be taken.
2. Unexcused absences are dealt with immediately.
If employees see that unexcused absences are not
punished, productivity will decline. The offend-
er’s performance will likely decline in other
areas and the owner-manager’s ability to disci-
pline effectively will deteriorate.
3. Theft prevention measures are in place.
Employee theft is often a serious problem. Dif-
ferent kinds of businesses need different measures
in this area, but the owner should be aware of
possible problems and have specific policies and
procedures to deal with them. Employee theft hurts
the performance of those who are not involved and
also imperils profits.
D. Regular employee meetings are conducted.
Employee meetings are one of the most effective
ways of communicating with employees and spotting
areas where improvement in the operation can be
made. Too many small business owners do not know
how to conduct good meetings, so they don’t even
try. Those businesses that use employee meetings
effectively are often very profitable and have
fewer performance problems. If the owner does not
know how to conduct an effective employee meeting,
training in this area should be suggested.
1. Employees’ ideas are solicited at meetings.
Consultants are often hired to tell owners what
their employees already know. This is a very
costly way of finding out what is needed to im-
prove the business. Simply asking employees what
they think and how they would like to see perfor-
mance improved will often generate many good ideas.
However, it is essential that the owner actually
use some of these ideas, or employees will soon
learn that the owner doesn’t really want to improve
2. An agenda is given to employees prior to the
Giving the employees an agenda prior to the meet-
ing lets them know what is expected of them at
the meeting and demonstrates that the owner feels
their input is important. It also cuts down on
rumors and anxiety generated when employees don’t
know what is going on.
OPERATIONS AUDIT ANALYSIS
1. The company has a good relationship with sup-
Your suppliers are critical to your business sur-
vival and prosperity. It is essential that you
have a written and well-documented plan on how
to deal with suppliers. This document should in-
corporate delivery schedules, quality of material
and services provided, payment terms and any other
particulars regarding the procurement of raw mater-
ials and services. It should also contain contin-
gency plans in case there are unforeseen problems.
This document should be provided to all major sup-
pliers. In addition, make certain that you remain
in personal contact with your suppliers.
2. The company provides for inventory control.
The right amount of raw materials ensures the suc-
cess of the production operation. Too much inven-
tory at any given time can be as much a production
impediment as too little. Inventory must be main-
tained at proper levels and provided in a timely
fashion. Production efficiencies erode quickly
when material is not available when needed. If
owner-managers overcompensate by procuring large
amounts of inventory, the probability of spoilage
and damage to the inventory is quite high, not to
mention the negative impact of having cash tied
3. The company conducts incoming inventory in-
Another important document is an incoming quali-
ty assurance policy. This document should set out
the firm’s standards for the quality of incoming
raw materials. A firm may pay a premium to the
vendor for a specified quality level of incoming
materials or may choose to employ a statistical
sampling technique. It may also inspect all incom-
ing materials, depending on the nature of the pro-
duct being produced. In any event, the criteria
used to inspect incoming inventory should be doc-
umented and well publicized to all parties invol-
ved. Poor quality raw materials not only lead to
the production of inferior products, loss of cus-
tomers and damage to the firm’s reputation, but
often also can cause damage to the production
equipment and create frustration on the part of
4. The company has alternate sources of raw
An organization or a firm may have a fantastic
relationship with a very competent supplier, but
it is essential that alternative sources of
supply be identified. It is recommended that the
majority of a firm’s raw material requirements
be equally divided between two major suppliers,
with a third source receiving lesser, but con-
1. The company has a routine maintenance program.
This is a must! What maintenance needs to be done
and when it needs to be done should be documented
and communicated to equipment maintenance people.
Every major piece of equipment should have a main-
tenance log positioned in an obvious place where
one can confirm that the routine maintenance sched-
ule is being followed. When a firm is short of
cash, frequently one of the first items cut is
routine maintenance expenditures. However, the
small savings that result from such cutbacks may
later result in much larger expenditures to ade-
quately maintain or rebuild the equipment.
2. Preventive maintenance is a regular occurrence.
Like routine maintenance, the firm needs a well-
written and -communicated policy on preventive
maintenance. Unlike routine maintenance activi-
ties, which are normally accomplished during off
production hours, at night and on weekends, with
little interruption of production, preventive
maintenance activities require a major amount
of down time. The written policy should address
a routine so that only one piece of major equip-
ment is down for refurbishing at a time, thus
minimizing lost production hours. Failure to do
preventive maintenance may result in a critical
machine’s breaking down just when production
requirements are highest.
3. The company has a written operator training
All production supervisors, as well as new em-
ployees, should have a copy of the operator
training manual. This manual should include a
step-by-step narrative of how the job is to be
performed. Training techniques that can be em-
ployed range from classroom instruction to ap-
prenticeship programs in which new employees
work alongside an accomplished operator. The
manual should list learning rates, production
tips and whom to contact with questions. Con-
structive feedback on training progress should
be provided in a nonintimidating fashion to all
4. The company meets OSHA standards.
Business owner-managers must obtain Occupational
Safety and Health Administration (OSHA) standards
that pertain to the business and incorporate them
into a written document. Meetings with employees
should be conducted regularly to ensure that all
phases of the operation are in compliance with
OSHA standards. Safety records and accidents re-
quiring workers’ compensation should be document-
ed and maintained.
1. The company has an adequate scheduling process.
Every production organization needs a well-thought-
out scheduling process to enable grouped orders to
proceed through production, maximizing efficiency
and satisfying customer due dates. A scheduling
chart allows instant recognition of where a partic-
ular job is in the production sequence. This chart
also allows the firm to provide customers with in-
formation regarding the progress of their orders.
Combining an effective scheduling process along
with a current scheduling chart not only facili-
tates efficient production, but also allows for
changes to meet production deadlines when compli-
2. In-process inventory is adequately controlled.
Where a production operation has several stages
of activity, the movement and storage of in-
process inventory becomes an item of major con-
cern. Subassemblies that are produced in one
manufacturing area must be available in suffi-
cient quantities and in a timely fashion for the
next stage of manufacturing. Quite often subas-
semblies are very fragile and subject to damage
or contamination by foreign materials, thus it
is important to ensure that their production and
temporary storage is properly managed.
3. Finished stock is safely stored.
It is important that finished stock be safely
transported and stored in a clean and dry area.
A firm may provide warehousing at its own loca-
tion, or it may choose to store its finished pro-
duct in a commercial warehouse. A firm may also
choose to have stock warehoused by its customer.
In any case, adequate care should be taken to
protect the product from damage or theft. In the
latter two cases, it is imperative that a written
contract specify who is responsible for insuring
the product. In addition to storage, it is criti-
cal that adequate controls be exercised to pre-
clude excessive inventory buildups that could
result in stock spoilage or obsolescence.
4. The company has an environmental awareness
With increasing emphasis being placed on environ-
mental concerns, small businesses must now be
aware of their responsibility for the environment.
This is especially true in the disposal of haz-
ardous waste materials. Appropriate information
should be obtained through national and state en-
vironmental protection agencies and incorporated
into a written policy for the business. In the
case of environmental pollution the business will
be held liable whether or not they understand
their responsibilities. This is truly a case where
ignorance of the law is no excuse. Sometimes, as
energy is expended in deciding what to do with by-
products, new markets for such materials may be
1. Company representatives attend trade shows.
A key element to the survival and prosperity of
any small business is its ability to use state-
of-the-art technology; therefore, it is impera-
tive that you stay abreast of advances in the
technology related to your business. Attending
trade shows on a regular basis is one method of
staying current, even though this may be some-
2. The company subscribes to trade publications.
Trade publications are another source of informa-
tion on technological advances. Many small busi-
nesses find this an inexpensive way to obtain in-
formation. Although the small business owner may
have very little time for outside reading, tak-
ing the time to be informed about such matters is
critical. Often this can be done during nonbusi-
3. A formal employee suggestion program is in
place, and regular brainstorming sessions invol-
ving the employees are conducted.
In addition to productivity enhancements that
can be obtained from external sources, another
vital source of productivity enhancement ideas
is the employees who are actually engaged in
the production activities. It is essential that
the owner-manager establish a well-communicated
employee suggestion program with immediate re-
wards. In addition, many fruitful ideas can be
obtained from regular brainstorming sessions
involving the employees.
4. The company is involved in the community’s
extended learning programs.
An often overlooked source of new production
ideas and technological advances are the var-
ious extended learning programs in your com-
munity. The small business entrepreneur should
become involved in such programs offered by
community colleges, universities and techni-
cal training schools. These activities can
range from taking classes to teaching classes.
Not only does such involvement build good rap-
port with the community, it also is a valuable
source of new ideas and technical innovations.
II. Sales and Marketing
A. The owner knows exactly what the business is.
Surprisingly, many owners don’t know what busi-
ness they are in. As stated earlier in the basic
planning section, very few businesses are ori-
ginal, which is why it is essential to find an
appropriate market niche. Small businesses must
meet some unique need if they are going to be
successful. Knowing what business you are in sim-
plifies decision making; helps focus sales and
marketing efforts; and communicates to customers,
suppliers and loan officers that the business is
a viable one.
1. The owner knows exactly who the customer is.
Who makes the buying decision? Often the true
customer is not apparent. Valuable time is wasted
talking to non-decision makers. Knowing who the
customer is also helps with such facets of the
business as product or service mix, advertising
approaches and customer satisfaction.
2. Potential customers know about the business.
Continually identifying potential customers and
educating them about the business is the hall-
mark of a prosperous operation. A quick survey
of potential customers is adequate for determin-
ing if the business is known. If prospective
consumers are not aware of the business, the
owner should evaluate present promotional ef-
forts and develop supplemental forms of adver-
3. Location is appropriate for the business.
One of the major reasons for poor business per-
formance in the SBI cases was poor business lo-
cation and inadequate facilities. A given loca-
tion may not be suited for all kinds of busines-
ses. When the location is not appropriate, it
may be necessary either to find a new one, to
redefine the business or even to go into a new
4. The market is clearly defined.
Having a clear understanding of the trade area
and clientele can save both time and money. Ill-
defined markets distort reality and lead to poor
decision making in operations as well as sales.
B. The owner knows his or her competitors and
That a business owner should know about the
competition seems obvious, but small businesses
often find it difficult to get this information.
A quick check of the Yellow Pages will provide
the location of the competition, and often a
great deal can be learned about them through
suppliers and sales representatives.
1. The owner knows how his or her prices com-
pare with the competitions’.
Being price competitive is essential in most
businesses; however, comparative pricing is not
always a simple matter. To know if prices are
truly competitive requires an awareness of quali-
ty, service and customer relations.
2. The owner knows how the competition is re-
A business’s suppliers and customers can pro-
vide valuable information about that business’s
competition. If asked, these people are surpris-
ingly eager to discuss the competition. The local
Chamber of Commerce and Better Business Bureau
can also provide valuable information.
3. Census data are used for strategic marketing.
This is the most overlooked source of marketing
information. Demographic data can provide nearly
unlimited information about general trends. Using
these data for strategic marketing decisions can
often provide competitive positioning. Being in
the right place at the right time with the right
product increases sales, reduces costs of sales
and develops goodwill that adds to future sales.
4. The owner knows county sales patterns.
This information is probably most essential when
deciding where to locate a business.
C. Owner and employees treat customers
Good customer relations are a highly subjective
matter, but common courtesy seems to be essential
to business success. Simple things like thanking
the customer for doing business, being responsive
to customer requests and providing requested in-
formation in a timely manner are some of the
1. Customers’ concerns, complaints and sugges-
tions are listened to carefully.
In this fast-paced society, people don’t take
time to listen to each other. The business owner
who listens to customers often finds repeat busi-
ness and excellent suggestions on improving cus-
tomer relations by better meeting the customers’
2. Customers are provided with quick, reliable
Americans like quick, reliable service. For most
of the public you are likely to serve, quality
and service are often more important than price
and can be your best form of advertising. Also,
it is virtually impossible to beat the large con-
glomerates on a pure price basis; therefore, the
small business has to provide a value added to
its goods and services or it simply won’t get
3. The owner is considered knowledgeable by cus-
Very often the reason people visit a small busi-
ness is because they are buying knowledge as well
as a product or service. This is just another
reason why it is crucial to know what the custo-
4. Appropriate housekeeping procedures for the
business are followed.
Every type of business has standards of cleanli-
ness. The small business must at least meet in-
dustrial standards. Often the small business that
prides itself on cleanliness finds a unique market
niche because it gets a reputation for cleanli-
ness. This is especially true in the food and hos-
pitality industries, but it can be just as im-
portant in garden and hardware stores.
D. The owner is aware of customer needs.
Too often, business owners are not in touch with
customer needs. When sales are growing, it is
generally a good sign that the business is meeting
its customers’ needs. Decreasing sales are a con-
crete sign that customer demands are not being met.
The customer is always right; if one business does
not provide what the customer seeks, he or she
will go to a business that is more satisfying or
1. Feedback is requested from customers.
The only way to find out what customers need is
to ask. There are many ways to ask; for example,
marketing specialists can be retained. However,
the simple question, How can I help you? will
generally get the needed information. The cour-
teous question sincerely asked is still the most
effective way to find out what the customer
needs and wants.
2. Sales receipts are monitored.
An effective, unobtrusive way of identifying cus-
tomer needs and preferences is to monitor sales
receipts. It is relatively easy to discover cus-
tomer preference by keeping a record of types of
sales, brand names bought or requested, etc. Some
businesses also keep a record of customer requests
for unstocked items as a means of identifying new
3. Sales receipts are compared to those from pre-
vious years. Annual comparisons of sales receipts
often can be used to anticipate emerging trends.
Changes in volume, quantity, quality and seasonal
shifts in sales can be anticipated, thus allowing
for modifications in inventory levels, advertising
and promotional planning. Comparing sales receipts
can provide valuable planning information, which
can increase savings and profits. The business’s
records are full of information that, if used,
can make a difference in profitability.
4. Seasonal variations are taken into account.
Knowing turnover rates of inventory, stocking
for seasonal variations and monitoring seasonal
sales are integral to effective cash-flow manage-
ment as well as for profit maximization.
E. The company needs to increase sales volume.
An increase in sales volume was required in all
the SBI cases analyzed. Nothing happens until
the sale is made. Sales volume is directly re-
lated to sales planning and execution. In some
cases, the owner simply did not know how to sell,
but this did not appear to be the major problem.
Poor or inadequate planning seemed to be the major
1. There is a sales plan in effect.
Sales don’t just happenthey are planned. A good
sales plan takes into account the fact that
sales cost money. Advertising, promotion and
personal selling all consume scarce resources.
Personal selling is generally the most expen-
sive, but for the businesses represented in the
SBI study, effective personal selling was found
to be an imperative.
2. Sales goals are being met.
Sales performance is basic. If sales goals are
not being met, something is wrong. Either the
goals are not realistic or faulty decisions are
being made about what or to whom to sell. The
annual budget is built on sales forecasts; if
sales are being overprojected, spending must be
reduced proportionately or the business will
soon be in the red.
3. Effective sales presentations are being made
to potential customers.
Many small businesspersons don’t know how to
make an effective sales presentation. If this
is the case, sales training should be undertaken
immediately. There are many workshops, seminars,
tapes and books on how to conduct a sales presen-
tation. The authors have found that customers
will provide valuable feedback on selling tech-
niques when asked. Practicing a sales presenta-
tion before a mirror or having a presentation
videotaped can provide powerful instruction.
Joining a group such as Toastmasters, serving
on United Way campaigns or volunteering for com-
munity service committees also can teach the
business owner how to make effective sales pre-
4. Names of prospects are kept in a follow-
Keeping a tickler or follow-up file on prospects
is an indispensable selling tool. A simple file
box with a calendar filing system and a stack of
index cards is all that is needed for this. The
entire system costs less than $6.
5. Sales are closed effectively.
Closing the sale is often the most difficult as-
pect of personal selling. It is a matter of tim-
ing and being attuned to the customer’s body lang-
uage. Overselling puts the customer off, even if
the decision has already been made to buy. Trying
to push for the sale too early turns off the cau-
tious customer. Good selling is a matter of prac-
tice. Getting feedback from a professional sales-
person is the most effective way of learning how
to close effectively.
III. Advertising and Promotion
A. The owner has an advertising and promotion
A major weakness in many of the SBI cases was
lack of advertising and promotion planning. The
owner-managers spent money randomly on advertis-
ing to promote particular items. A clear promo-
tional objective with a well-developed plan of
action helps to cultivate awareness of the busi-
ness and creates a positive image. Random adver-
tising may increase short-term sales, but it is
not effective in developing market recognition
for the business.
1. The business has an advertising budget.
Budgeting money for advertising encourages a con-
sistent promotional effort and prevents cash flow
problems caused by sporadic and unexpected adver-
tising endeavors. Certain dependable advertising
channels to be included in the budgeting process
are the Yellow Pages, direct mail and flyers, news-
paper and radio ads and business cards. The owner
may have to budget personal time for the advertis-
ing process as well.
2. The business advertises on a weekly or monthly
basis. Potential customers need to see advertis-
ing regularly if it is to have a long-term impact.
At a minimum, advertising should be scheduled on
a monthly basis. Weekly advertising is even more
effective, especially in businesses such as re-
tail, variety and grocery stores. Whatever adver-
tising approach is taken, continuous and consis-
tent advertising communicates an image that the
business has staying power and is reputable.
3. The business has a promotional calendar.
A well-developed annual promotional calendar
helps multiply the impact of dollars spent on
promotion and advertising. By comparing past
promotional calendars with their corresponding
source of funds statements, the effectiveness
of past advertising campaigns can be ascertain-
ed. This simple procedure is a very effective
means of increasing the impact of advertising
on costs and potential profits.
B. The owner uses effective advertising and
promotion. The better the customers’ needs are
understood, the more convincingly a business
can target its advertising toward those needs.
Ineffective advertising is generally the result
of not knowing the customers’ habits and de-
sires. Effective advertising, on the other hand,
generally is not the result of blind luck, but
the result of knowledge and understanding.
1. The owner advertises in the Yellow Pages.
An ad in the Yellow Pages lets customers know
that the business is permanent. Many people,
especially those new to an area, use the Yel-
low Pages for first-time buying. An ad in the
Yellow Pages increases the odds of getting new
business. In addition, it has the advantage of
targeting the advertising at people who have
made a decision to buy.
2. The owner uses newspapers and shoppers.
Many small businesses have found community shop-
pers and weekly newspapers to be cost-effective
ways to advertise. This is especially true when
those who read them also frequent the area near
3. The owner uses radio and television adver-
Radio and television are fairly expensive adver-
tising media, but for some businesses, they are
lucrative. The profitability of this form of ad-
vertising should be carefully analyzed before
spending large sums of money.
4. The owner obtains no-cost or low-cost media
Every community has no- or low-cost advertising
opportunities. Placing business cards on bulletin
boards, speaking before various community groups,
using special events to get publicity, or donat-
ing services to a newsworthy cause are all effec-
tive ways of advertising. Law firms have used pol-
itics for years as a low-cost way to become known
to the general public. Pet stores have donated
time or supplies to the Humane Society. Office sup-
ply stores provide supplies and surplus equipment
to schools, churches and other goodwill organiza-
tions. Some creative thinking often can produce a
higher payoff than traditional advertising ap-
C. The owner uses effective merchandising tech-
Attractive displays of merchandise are critical
in retail operations. Simple but effective mer-
chandising techniques might include displaying
items near the cash register, putting high turn-
over items at the back of the store to draw cus-
tomers through the store and placing quality
items at eye level. Franchise operations often
do an excellent job of using merchandising tech-
niques. Initiating well-known franchise business
methods can be an excellent way to learn new mer-
1. The owner relates display space to sales po-
Keeping shelves stocked with a balanced inven-
tory ensures that customers can find what they
want when they want it. Having top-quality items
at eye level and lower-quality items below is a
technique chain stores use to encourage custo-
mers to buy more expensive items. Older inven-
tory should be displayed prominently and its
turnover monitored daily. This can also help
the owner discover the hot selling spot, which
can be advantageous in planning future displays.
2. The owner uses vendor promotional aids.
Vendors put a great deal of time and money into
their display packages. Using the vendor’s dis-
plays and using vendor-prepared promotional ads
with those displays can be an effective way of
leveraging advertising and promotional dollars.
3. The owner understands traffic flow patterns
How customers move past displays and through
the store can be used to increase sales. For
example, most people turn to the right upon
entering a building – seeing how the tile or
rug wears is one way of determining customer
4. The owner keeps facilities clean.
Making certain that the store and its merchan-
dise are clean communicates to customers that
the owner cares about them. It is an effective
nonverbal way of telling customers that their
business is appreciated.
D. The owner evaluates advertising and promo-
If it works, don’t fix it and if it doesn’t,
change it. Because advertising uses valuable
resources, the small businessperson must close-
ly monitor the effectiveness of advertising and
promotional efforts. The only way to test adver-
tising ideas is to try them. However, what
works one time won’t necessarily work again. In
addition, what works for one store may not work
for another. Advertising and promotion are more
art forms than sciences. Too often, small busi-
nesses either advertise ineffectively or too
little. Analyzing the results of sales efforts
and promotional campaigns and how leads are gen-
erated facilitates the use of advertising dol-
lars in a more effective manner.
1. The owner determines if sales increase with
If sales don’t increase with advertising, it
may be a sign that the business owner doesn’t
know or understand who the customer is and why
he or she buys.
2. The owner ascertains if sales increase after
If a special promotion doesn’t increase sales,
then the business may be in a poor location or
there may not be enough potential customers in
the business area. If special promotions don’t
increase business, the owner must take a hard
look at the business. Perhaps there just isn’t
a market for goods or services offered by the
3. The owner endeavors to discover if advertis-
ing is reaching intended markets.
Many small businesses become contented when ad-
vertising increases sales. However, additional
sales that do not increase profits need reevalu-
ating. Reaching a market other than the intended
one is probably a stroke of luck rather than an
act of planning. It’s great the one time it hap-
pens, but it cannot be relied upon. One-time
(variety methods) advertising has its advanta-
ges, but it is the type of advertising that most
small businesses cannot afford.
FINANCIAL AUDIT ANALYSIS
I. General Bookkeeping and Accounting Practices
A. The company has a single- or double-entry
Record keeping is vital to the survival and suc-
cess of any business. According to analysis of
the SBI cases, problems with record keeping con-
stituted the second-largest problem area. Whether
the business used a single- or double-entry sys-
tem did not appear to be as important as how the
system was executed. Timely and accurate record
keeping is essential.
1. The owner prepares the books.
The small business owner who understands book-
keeping, records the transactions and prepares
the financial statements has an intimate know-
ledge of the business. Knowledge of these ac-
counting and financial aspects makes the owner
credible with lending institutions. It also
keeps the owner out of financial trouble and
helps him or her stay focused on ways to make
2. The owner pays for bookkeeping service.
The owner who does not understand the essen-
tials of bookkeeping needs to hire a trusted
professional. Even then, the owner needs to
understand financial statements. Failure to
understand essential financial statements is
an indication that the owner has surrendered
managerial responsibility. It is generally
wise to have the professional bookkeeping ser-
vice prepare taxes when the service is already
keeping the books. The owner who does not do
the record keeping is rarely in close enough
touch with the records to adequately prepare
tax forms. The business owner who delegates so
much financial responsibility to others should
think seriously about using a CPA.
B. The owner reconciles bank statements monthly.
A quick way to get into financial trouble is not
to reconcile bank statements monthly. With a
single-entry bookkeeping system, this is the
only way to maintain accuracy. Even when a double-
entry system is used, reconciling statements month-
ly is the only sure way to catch mistakes. Too
many small business owners put this off because of
other, more pressing, concerns. This destroys the
validity of their own financial statements, causing
them to make important decisions based on erroneous
C. The owner keeps income and expense statements
accurate and prepares statements monthly.
The ability to track the flow of funds into and
out of the business is necessary for continued
viability. Cash flow problems have closed many
small businesses. The monthly preparation of
accurate income and expense statements is the
best single way to avert critical cash shortages.
1. The owner understands purpose of financial
An owner who understands that financial state-
ments are essential for directing and control-
ling a business will more likely take them ser-
iously. Well-prepared business statements put
the owner in control of the business, facili-
tate relationships with lending institutions
and simplify tax preparation, often saving the
owner tax dollars.
2. The owner compares several monthly statements
Comparing monthly and annual statements for
trends provides financial data for planning
purposes. Trend analysis is essential for ef-
ficient inventory control, capital budgeting,
vacation scheduling, timely advertising, pro-
motional campaigns and profit maximization.
3. The owner compares statements against in-
Knowing how a business compares financially to
others helps the owner who is seeking loans or
expansion opportunities. Such knowledge also
provides the owner with both a psychological and
planning advantage, adds to the owner’s aware-
ness of how well the industry is doing as a whole
and provides an early warning system for market
fluctuations and trends.
4. The owner knows current financial status of
Not knowing how the business is doing financial-
ly is a major reason for small business failures.
Managing the business with relatively simple fi-
nancial tools and staying constantly in touch
with the business’s financial status is critical
if an adequate profit is to be made. Although
good record keeping is time consuming and takes
away from doing the actual work of the business,
it is essential nevertheless if the business is
to be a success.
D. The company makes monthly deposits for federal
withholding and Social Security taxes.
Government regulation makes this mandatory; there
are penalties for not reporting accurately and in
a timely fashion. Another important reason for
timely deposits is employee morale. Not filing
the proper forms can create problems for employ-
ees, resulting in disgruntled employees. This in
turn can harm customer satisfaction and loyalty,
eventually destroying profits and sometimes
threatening the business’s survival.
1. The owner understands Form 941.
Form 941 is used to report quarterly the income
tax and Social Security that the business with-
holds from the employee’s wages, and the match-
ing Social Security contribution paid by the
employer. Not doing this as required by law is
costly in terms of penalties and interest as-
sessed by the government.
2. The owner makes deposits on time to avoid
Penalties are costly and take away from profits.
In several of the SBI cases, late deposits had
become so chronic, and the penalties so high,
that the businesses were financially threatened.
Chronic penalties for late deposits are a sure
sign of poor business practices and can be a
warning sign to lending institutions that the
business is heading for financial trouble,
making it highly unlikely the owner will be
able to get a loan when needed.
3. The owner provides W-2 information.
Not providing correct W-2 information is a sure
way to get into trouble with the Internal Reve-
nue Service. Providing the correct information
takes little time and prevents costly delays
later. Not paying attention to such government
details is often an indication that other busi-
ness details are also being ignored. Such sloppy
management practices warn bankers and other
lenders that the owner is a poor credit risk.
E. The company has a credit policy.
Providing credit to customers can often increase
sales volume. But if the business does not have
a written credit policy or does not follow it ex-
actly, the business may lose more money on bad
debts than the additional sales brought in. Writ-
ten credit policies often speed debt collections,
especially when discounts can be made for early
payments. Several of the SBI cases showed a marked
improvement in cash flow after credit policies were
1. The company ages the billing system monthly.
Monthly aging of the bills due keeps the owner in
touch with who the best customers are. Last year’s
excellent customer can be today’s problem customer.
2. The company assesses a late payment fee from
Late payments can jeopardize the business-customer
relationship, because the customer is not aware of
how poor payment habits affect the business. Provi-
ding discounts for early payments is an effective
way to encourage customers to pay on time. This will
improve cash flow and even build customer loyalty.
3. The company writes off bad debts.
Not writing off bad debts gives a false sense of
net worth and can threaten the financial perfor-
mance of the business. This also lets the owner
know which customers are poor credit risks.
4. The company has good collection policies.
Many small business owners detest debt collec-
tions. A good collection policy simplifies col-
lections and is an effective deterrent to late
payments and bad debts. Timely and effective
debt collection is essential for positive cash
flow and increases profits because it diminish-
es the need for short-term operating loans.
5. The company has a series of increasingly point-
ed letters to collect from late customers.
The customer who is truly a collection problem
will not be influenced by discounts or good col-
lection policies alone. These customers probably
have cash flow problems or other financial prob-
lems of their own. Late notices and overdue state-
ments with increasingly demanding language will
be required. Often letters from a lawyer can be
helpful. As a last resort, it may be wise to turn
them over to a collection agency.
6. The company has VISA, MasterCard or other
credit card systems.
Credit card systems provide timely cash turn-
around and put the financing burden directly
on the customer. The worry and headaches alle-
viated by using a credit card system more than
justify the small fee credit card companies
charge. Such a system also simplifies bookkeep-
ing and billing and lowers operating costs in
7. The company emphasizes cash discounts.
Cash discounts encourage customers to pay now
rather than use credit. Informing customers
that paying by cash saves them money improves
cash flow and decreases collection costs.
F. The company files all tax returns in a time-
Not filing tax returns in a timely manner is a
sign of poor organization. Procrastination has
been the downfall of many small business owners.
No one enjoys filing tax returns, but putting
off the inevitable until later doesn’t make it
any easier. Getting the tax forms in on time is
also a good general business practice, because
it may be the only time during the year when an
accurate picture of business performance can be
1. The owner considers tax implications of equip-
Waiting until the last minute to consider the
tax implications for the purchase of equipment
and other capital outlays can be costly. Think-
ing ahead and discussing tax implications of
various alternatives with an accountant early
in the year can save in taxes. Tax considera-
tions are essential for all businesses, but
for the small business, such considerations
can make the difference between a profit and
2. The owner considers buy versus lease possi-
Deciding whether to buy or lease equipment is
an important business consideration. Leasing
rather than borrowing money to buy can help
cash flow, save taxes and increase total opera-
ting capital. One reason to consider leasing
equipment is that it may save downtime when
equipment needs repairs.
3. The owner considers possible advantages and
disadvantages of incorporation/Subchapter S.
Each kind of business structure has its own ad-
vantages. Most of the businesses in the SBI
cases studied were either sole proprietorships
or Subchapter S corporations. In essence, the
S-corporation is not affected by corporate in-
come tax, because it is treated as a partner-
ship. Other than this, the S-corporation and
the standard corporation share most of the
same advantages and disadvantages.
4. The owner does not pay tax penalties (fed-
eral, state, local).
It should be obvious that any business paying
tax penalties is losing profits. Worse than
this, not paying taxes on time creates many
time-consuming headaches. It also sends a mes-
sage to lenders that the business is a poor
II.Financial Planning and Loan Proposals
A. The company has adequate cash flow.
Inflation and fluctuating interest rates have
made it mandatory for small businesses to close-
ly manage their cash flow. Given the added prob-
lem that many small businesses owe money, it is
little wonder that an adequate cash flow is es-
sential to the firm’s health and financial sta-
bility. Businesses that are otherwise healthy
can become insolvent simply because of poor
1. Prenumbered cash receipts are monitored and
The use of prenumbered receipts is the simplest
way to keep track of customers and sales. It is
also the source document for building the ac-
counting system. Another reason for using pre-
numbered receipts is that they can reduce inven-
tory shrinkage and reduce the time spent on phy-
sical inventory audits.
2. Checks are deposited properly each day.
A basic principle of cash management is to keep
it moving. The faster cash moves from the custo-
mer to the bank and into appropriate short-term
investments, the better. Another benefit of daily
check deposits is that they decrease the possibil-
ity of loss, which creates numerous other problems.
3. Customer invoicing is done promptly (within
two working days).
Waiting to bill customers is a poor practice. It
communicates to customers that it is okay to be
late with their payments. Incorrect invoicing also
creates delays and takes valuable time to correct.
4. Collections are received within 60 days.
When it takes longer than 60 days to collect pay-
ments, the business needs to examine its credit
and collection policies. Long collection periods
increase operating expenditures through additional
billing costs, lost interest and the need to bor-
row to meet current operations.
5. Accounts payable take advantage of cash dis-
Taking advantage of cash discounts that suppliers
offer saves money and is an important step for
the business in its attempts to establish itself
as a primary customer. Being considered such a
customer can facilitate delivery, improve services
and can be an excellent source of new business
6. Disbursements are made by prenumbered check.
Prenumbered checks are primary source documents
for accurately determining expenses. Not using
them increases the time spent on bookkeeping,
makes it difficult to monitor expenses accurate-
ly, increases the probability of double payments
and communicates to suppliers that the business
is a marginal operation.
B. The company projects cash flow needs.
Most small businesses use a cash basis rather
than an accrual basis of accounting. Though a
cash basis is easier and takes less time to main-
tain, it often gets the business into trouble,
because the business has incurred expenses for
which there is no proper accounting. By keeping
track of accounts receivable and accounts payable,
it is relatively easy to project cash flow needs.
1. Payrolls are met without problems.
When a business has a problem meeting its pay-
roll, drastic action is generally needed to save
it from financial ruin. Generally, the owner-
manager has not been watching the books closely
enough. When this happens, it is a sure sign
that general business practices are poor. On
the other hand, an ability to meet the payroll
is usually a sign that the business is at least
in a fair state.
2. Money is set aside for expansion, emergencies
and opportune purchases.
Few small businesses have the advantage of being
cash rich. Many fail simply because they do not
have money set aside for emergenciesthey operate
too close to the margin. Having an emergency fund
should be considered a necessity rather than a
luxury. Having an expansion fund, or a special
fund set aside to take advantage of opportuni-
ties, not only reduces stress for the owner, but
can often provide an operational advantage for
3. Short-term financing is used when needed.
A small business should borrow money only when
needed or when analysis proves it will be profi-
table to do so. Short-term financing is essen-
tial to a seasonal business. But poor analysis
turns short-term loans into long-term debt, put-
ting the business in a precarious financial posi-
tion. Incorrect use of short-term financing was
a major problem for a number of the SBI cases
4. A line of credit is established with a bank.
Having a predetermined line of credit means the
business is a good credit risk. It is a sign
that the business is well managed. A preestab-
lished credit line provides operational flexibil-
ity and, when used properly, can provide a source
of funds to meet emergencies or to take advantage
of investment opportunities. Another advantage of
developing a line of credit is that it establish-
es a relationship between the business and the
bank, facilitating later acquisition of long-term
financing for expansion, etc.
C. The company understands the role of financial
planning in today’s highly competitive lending
markets. In order to obtain credit in today’s
tight money markets, financial planning is es-
sential. Lenders want to know as much about the
person to whom they are lending as they do about
the business. This means that a well-prepared
business plan as well as a detailed personal
statement will be required.
1. The owner’s personal resume is prepared and
A well-written and professionally prepared resume
is an indispensable document for obtaining small
business loans in today’s market. Obtaining a
small business loan takes personal salesmanship,
and the owner must demonstrate competence to run
the business. A well-prepared resume informs the
loan officials that the owner is qualified to man-
age the business and repay the loan on schedule.
2. Personal financial statements have been pre-
Even when the business is incorporated, most
lending institutions assume they are lending
money to the owner personally. Having a well-
prepared personal financial statement can in-
crease the probability of obtaining a loan.
3. There is a written business plan.
A written business plan is a road map that tells
a loan officer what the business is, where it is
going and how it is going to get there. Without
a well-developed business plan, it is unlikely
that a loan will be obtained.
4. There is a source and use of funds statement
for the past two years, with a projection for
the next two years. The source and use of funds
statement, more than any other document, lets
the loan officer know if the business is viable.
It is also essential for the management of cash
flow and is an essential operating document,
even when a loan is not being requested.
5. There is an accurate balance sheet for the
past two years, with a projection for the next
Historically, the balance sheet has been the
primary financial document used by loan offi-
cers and others in the financial community to
determine the financial health of a business.
It is still necessary to include balance
sheets in the loan proposal package, though,
by themselves, they are no longer sufficient
documentation for obtaining loans.
6. The owner has a good working relationship
with the banker.
The small businessperson must have a good pro-
fessional relationship with the banker and must
keep the banker informed about the business on
a quarterly basis. A well-informed banker can
provide valuable financial information and will
be more likely to lend money when it is requested.
7. There is a strong debt-to-equity ratio
It should be obvious that a banker only wants to
lend money to a successful business. The banker
also wants to know that the owner has at least
as much at stake as the bank, and preferably
twice as much.
The authors have attempted to present a methodol-
ogy for enhancing the success rate of growing
small businesses. This methodology helps the
small business manager to critically assess the
strengths and weaknesses of all facets of the
business. By using the management audit instru-
ment and the audit analysis on a regular basis,
the small business manager will be better able
to see pitfalls in sufficient time to react ap-
propriately, thus ensuring a greater possibil-
ity of business survival and prosperity.
APPENDIX A: AGENCIES SURVEYED TO DEVELOP THE
The Association of Small Business
1313 Farnam, Suite 132
Omaha, NE 68182-0472
Association of Government Marketing
c/o Bid Resource Center
4675A Washington Boulevard
Beaumont, TX 77707
National Association of Management
and Technical Assistance Centers
733 15th Street, NW
Washington, DC 20005
Florida Department of Commerce
107 West Gaines Street
Tallahassee, FL 32399-2000
SCORE (Service Corps of Retired
U.S. Small Business Administration
409 3rd Street, SW
Washington, DC 20416
State Coordinator’s Office
Small Business Development Centers
The University of West Florida
11000 University Parkway
Pensacola, FL 32514
Small Business Development Center
The University of West Florida
College of Business
Pensacola, FL 32514
Small Business Development Center
The University of South Florida
Tampa, FL 33620
Small Business Development Center
School of Public Administration
College of Business and Public Administration
Florida Atlantic University
Boca Raton, FL 33431
Small Business Development Center
University of Central Florida
Post Office Box 25000
Building Ceba II
Orlando, FL 32816
APPENDIX B: INFORMATION RESOURCES
U.S. Small Business Administration (SBA)
The SBA offers an extensive selection of
information on most business management
topics, from how to start a business to
exporting your products.
This information is listed in The Small
Business Directory. For a free copy con-
tact your nearest SBA office.
SBA has offices throughout the country.
Consult the U.S. Government section in
your telephone directory for the office
nearest you. SBA offers a number of pro-
grams and services, including training
and educational programs, counseling
services, financial programs and con-
tract assistance. Ask about
– Service Corps of Retired Executives
(SCORE),a national organization spon-
sored by SBA of over 13,000 volunteer
business executives who provide free
counseling, workshops and seminars to
prospective and existing small busi-
– Small Business Development Centers
(SBDCs),sponsored by the SBA in part-
nership with state and local govern-
ments, the educational community and
the private sector. They provide as-
sistance, counseling and training to
prospective and existing business
– Small Business Institutes (SBIs), or-
ganized through SBA on more than 500
college campuses nationwide. The in-
stitutes provide counseling by stu-
dents and faculty to small business
For more information about SBA business
development programs and services call
the SBA Small Business Answer Desk at
Other U.S. Government Resources
Many publications on business management
and other related topics are available
from the Government Printing Office (GPO).
GPO bookstores are located in 24 major
cities and are listed in the Yellow Pages
under the bookstore heading. You can re-
quest a Subject Bibliography by writing
to Government Printing Office, Superin-
tendent of Documents, Washington, DC
Many federal agencies offer publications
of interest to small businesses. There is
a nominal fee for some, but most are free.
Below is a selected list of government
agencies that provide publications and
other services targeted to small busines-
ses. To get their publications, contact
the regional offices listed in the tele-
phone directory or write to the addresses
Consumer Information Center (CIC)
P.O. Box 100
Pueblo, CO 81002
The CIC offers a consumer information
catalog of federal publications.
Consumer Product Safety Commission (CPSC)
Washington, DC 20207
The CPSC offers guidelines for product
U.S. Department of Agriculture (USDA)
12th Street and Independence Avenue, SW
Washington, DC 20250
The USDA offers publications on selling
to the USDA. Publications and programs on
entrepreneurship are also available through
county extension offices nationwide.
U.S. Department of Commerce (DOC)
Office of Business Liaison
14th Street and Constitution Avenue, NW
Washington, DC 20230
DOC’s Business Assistance Center provides
listings of business opportunities avail-
able in the federal government. This ser-
vice also will refer businesses to differ-
ent programs and services in the DOC and
other federal agencies.
U.S. Department of Health and Human Services (HHS)
Public Health Service
Alcohol, Drug Abuse and Mental Health Administration
5600 Fishers Lane
Rockville, MD 20857
Drug Free Workplace Helpline: 1-800-843-4971.
Provides information on Employee Assistance
National Institute for Drug Abuse Hotline:
Provides information on preventing substance
abuse in the workplace.
The National Clearinghouse for Alcohol and
Drug Information: 1-800-729-6686 toll-free.
Provides pamphlets and resource materials on
U.S. Department of Labor (DOL)
Employment Standards Administration
200 Constitution Avenue, NW
Washington, DC 20210
The DOL offers publications on compliance
with labor laws.
U.S. Department of Treasury
Internal Revenue Service (IRS)
P.O. Box 25866
Richmond, VA 23260
The IRS offers information on tax require-
ments for small businesses.
U.S. Environmental Protection Agency (EPA)
Small Business Ombudsman
401 M Street, SW (A-149C)
Washington, DC 20460
1-800-368-5888 except DC and VA
703-557-1938 in DC and VA
The EPA offers more than 100 publications
designed to help small businesses under-
stand how they can comply with EPA regula-
U.S. Food and Drug Administration (FDA)
FDA Center for Food Safety and Applied Nutrition
200 Charles Street, SW
Washington, DC 20402
The FDA offers information on packaging and
labeling requirements for food and food-
For More Information
A librarian can help you locate the specific
information you need in reference books. Most
libraries have a variety of directories, indexes
and encyclopedias that cover many business topics.
They also have other resources, such as
– Trade association information – Ask the li-
brarian to show you a directory of trade
associations. Associations provide a valuable
network of resources to their members through
publications and services such as newsletters,
conferences and seminars.
– Books – Many guidebooks, textbooks and manuals
on small business are published annually. To
find the names of books not in your local li-
brary check Books In Print, a directory of
books currently available from publishers.
– Magazine and newspaper articles – Business and
professional magazines provide information
that is more current than that found in books
and textbooks. There are a number of indexes
to help you find specific articles in periodi-
In addition to books and magazines, many libraries
offer free workshops, lend skill-building tapes
and have catalogues and brochures describing con-
tinuing education opportunities.
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