Do you know your current net worth? Do you know how much your net worth is changing from year to year?

We all want to enter retirement with a comfortable nest egg, owning more than we owe. A good way to chart your progress toward that goal is to prepare a personal balance sheet at least every year. That will give you a score card to measure how you’re doing. A balance sheet shows your assets and your liabilities. Think of them as what you own and what you owe. The difference between them is your net worth.

Here’s a quick guide.

Pick a date such as the end of the year or the end of a quarter when you’ll have statements available for your financial accounts.

Start by listing all your financial assets. Include bank accounts, balances in IRAs and retirement plans, stock and bond investments, etc.

The next step is the least precise. You must assign a value to your nonfinancial assets, such as house, car, and personal belongings. Don’t get hung up at this stage.  For most purposes, it’s not essential that you find an exact value. Using the same approach from year to year is more important.

To value your house, look at classified ads for comparable properties, or talk to a friendly real estate agent. Another approach is to use the assessed value shown on your property tax statement. This is generally less than market value, but yearly changes should reflect changes in the local property market.

For personal property, just make a reasonable estimate. Hold that constant each year unless you make any major purchases.

Liabilities are next. List your mortgage balance and all loans. Include credit card debt, car and boat loans, student loans, and any other debt. Total up your assets and liabilities. The difference between the two totals is an estimate of your net worth. Hopefully it shows an increase from the previous year.

If your net worth is not increasing, use your balance sheet to see where you’re falling short. Look for ways to boost the growth of your assets, or set a budget to reduce your liabilities. Your personal balance sheet is more than just a good financial score card. It can be a valuable planning tool, too.

The law increases the deduction for business start-up expenses in 2010 from $5,000 to $10,000. The deduction phases out after expenditures exceed $60,000; that’s up from the prior phase-out threshold of $50,000.

For 2010, self-employed taxpayers will be able to deduct the cost of their health insurance in computing self-employment taxes.

The new law also provides a $30 billion fund to encourage community banks to lend to small businesses.

The good news is that the financial reform law just signed permanently sets the FDIC insurance limit at $250,000 per depositor, per bank. The $250,000 coverage applies for each of four categories of ownership: individual, joint, retirement, and trust accounts.

Sales are the lifeblood of business and many companies get so focused on making sales that they overlook the ability of their customers to repay a credit ‘loan’. To prevent cash flow problems, it’s vital that your company has sound credit policies and procedures to ensure that your customers do pay you when their accounts are due.

Starting out right

Sound credit policies begin with a credit application, a type of agreement that sets the terms for the offer of credit. The terms should cover all possible outcomes, such as an interest charge for late payment or a collection fee to cover expenses incurred in chasing the debt. An effective application will ask the customer for trade credit references and for permission to seek information from these references and credit reporting agencies. If you don’t have one, you will want to select a collection agency that you can call on as a last resort.

Once the completed credit application is received you can follow up by calling the customer’s references to check their credit record with them. For a nominal fee you can also get a credit report that shows negative claims or legal judgments against the customer. If there are warning signs that the customer will have trouble paying, you might want to deny credit or insist on a substantial deposit before supplying goods or services.

You will want to create creditworthiness criteria as part of your credit policy. Should the customer have been in business for a certain number of years before you offer credit? Do they need to be a certain size business? Are they in a risky industry? How late will they have to be before you turn the account over to a collection agency? If you can find the information, some guidelines and ideas can be gathered from how your competitors handle their credit terms.

Make it easy for customers to pay you

The credit application should ask the customer where and to whom the invoice should be sent.  Sometimes payments are delayed because the invoice was sent to the wrong person or wrong location. Give customers as many options as possible to pay, such as by check, bank transfer, credit card and PayPal.

It’s crucial that you send invoices immediately after your product or service has been supplied. Delaying invoicing sends the wrong message to your customers – if you are tardy in invoicing, some might believe they can be tardy in paying you.

Follow up on overdue accounts

If you don’t receive payment by the due date, follow up immediately with a phone call. Make sure the right person has received the invoice and ask why the invoice hasn’t been paid. Ask for a firm commitment date to get your payment and keep in regular contact until the payment has been made. When it comes to collecting outstanding debts, the company that stays in regular contact with its debtors is likely to get paid faster than the ones that don’t.

When a customer fails to respond to repeated requests for payment it is time to call in your collection agency. Most agencies operate on a commission basis and receive a portion of what they collect. They will make phone calls and send demand letters on your behalf. If they aren’t successful, they will then discuss other options such as taking legal action.

By offering credit, your company is in the lending business by default. Establishing and adhering to effective policies and procedures will reduce the risk, stress and cash flow problems that can occur from extending credit.

By using financial ratios you can determine just where you stand in relation to liquidity, debt levels and profitability.

Liquidity ratios

Current ratio:  The current ratio measures a company’s ability to meet its short-term obligations.

Current ratio = current assets ÷ current liabilities

Current assets and liabilities are short-term assets and liabilities – it is expected that current assets will be turned into cash and current liabilities paid within one year.

For example, a company with current assets of $1,500,000 and current liabilities of $700,000 has a current ratio of 2.14. A current ratio of 2.0 is often seen as acceptable, but this depends on the industry. In general, the more liquid a company’s current assets, the smaller the current ratio can be without causing concern.

Quick ratio:  The quick ratio (also called acid test) is similar to the current ratio but it doesn’t include inventory.

Quick ratio = (current assets – inventory) ÷ current liabilities

A quick ratio of 1 is generally recommended, but the ideal does vary between industries. When inventory cannot be easily converted into cash the quick ratio provides a more accurate measure of overall liquidity. When a firm’s inventory is liquid the current ratio is better for measuring liquidity. 

Debt ratios

Debt ratio:  The debt ratio measures the proportion of a firm’s total assets that are financed by its creditors. The higher the debt ratio, the more credit is being used by the firm.

Debt ratio = total liabilities ÷ total assets

For example, a company with $2,500,000 in total liabilities and $4,200,000 in total assets will have a debt ratio of 0.60, or 60 percent. This debt ratio shows that 60 percent of this company’s assets are financed with debt. Companies with high debt ratios are ‘highly leveraged’.

Times interest earned ratio:  This ratio measures a company’s ability to make contractual interest payments.

Times interest earned = earnings before interest and taxes ÷ interest

The higher the times interest earned ratio, the greater the firm’s ability to meet interest payment obligations.

For example, a company with earnings before interest and taxes of $1.9 million and annual interest obligations of $450,000 will have a times interest earned ratio of 4.2. A times interest earned ratio between 3.0 and 5.0 is considered to be acceptable in most cases.

Profitability ratios

Gross profit margin:  The gross profit margin measures the percentage of profit remaining after the cost of goods sold–but not other expenses–have been paid. This ratio gives an indication on whether the average mark up on goods and services is sufficient. The larger the gross margin, the more able a firm is to cover expenses and make a profit.

Gross profit margin = (sales – cost of goods sold) ÷ sales = gross profits ÷ sales

For example, a company with $6.5 million in sales and $4.7 million in cost of goods sold will have a gross margin of 28 percent.

Net profit margin:  The net profit margin measures the percentage of sales dollars remaining after all the expenses have been paid, including the cost of goods sold and taxes. It is considered a key performance indicator of a firm’s success.

Net profit margin = net profits after taxes ÷ sales

If a company has sales of $2.1 million and a net profit after taxes of $260,000, its net profit margin is 12 percent.

What can be considered an acceptable net profit margin varies between industries. A net profit margin of 1 percent is not unusual for a supermarket while a software company might have a net profit margin of 25 percent.

Financial ratios can be an effective way to analyze your business performance over time and against industry averages. Your accountant can help you determine your financial ratios and how your business compares against standard benchmarks.

Asset-Based Finance

Companies that are unable to secure traditional bank funding can turn to asset-based finance to cover their needs. With asset based finance, a company uses its assets as collateral to secure structured working capital or term loans. If the business is unable to repay the loan, the lender takes the asset that secured the loan. Asset-based loans can be secured by a range of assets including machinery, equipment, accounts receivable, inventory or real estate. In its most basic form, asset-based financing involves tangible assets. A business can pledge one or more its assets as collateral to secure a loan. Once the loan is repaid, the lender no longer has a claim on the asset.

Factoring

With factoring, a business sells its accounts receivable at a discount to a third party, called a factor. The business receives its funds immediately. The factor takes ownership of the receivables and assumes the right to collect on them and takes on the risks of non-payment. Factoring is not a loan, so the factor isn’t concerned with the firm’s creditworthiness but looks at the quality of its accounts receivable. The main drawback for the business is that it doesn’t receive the full value of its receivables. This amount forfeited can be high in percentage terms when compared to traditional forms of finance.

Invoice Discounting

Firms wanting to improve working capital and cash flow positions can use invoice discounting, also called debtor finance, to borrow a percentage of the value of the their receivables. Under these arrangements, the business gets access to a revolving line of credit (sometimes up to 90% of the value of outstanding invoices) which it can draw upon. For the service, the lender charges fees and interest on the amount borrowed

Like an overdraft, the business only pays interest on the funds borrowed. In most cases, confidentiality is maintained so that customers and suppliers don’t know the business is borrowing against its receivables.

The main drawbacks of invoice discounting are its high cost compared to other finance options and the loss of the company’s flexibility to make other finance arrangements once receivables have been dedicated as collateral. Businesses can start to rely on the improved cash flow invoice discounting brings and may find it difficult to leave the arrangement.

Merchant Cash Advances

A growing number of businesses needing a quick solution to cash flow challenges are turning to merchant cash advances (MCAs), a new and controversial form of finance. Merchant cash advance providers offer businesses a lump sum payment in exchange for a share of future credit card sales. This form of finance has become popular among retail, restaurant and service companies that have strong credit card sales but have poor credit ratings and little or no collateral.

Under an MCA arrangement, the provider collects a set percentage of the company’s daily credit card sales until they recover the amount they advanced plus a premium. The advantage for the business is quick access to funds without the need for a strong credit rating or collateral.

The main drawback of MCAs is their high premiums, which can be over 30% of the money advanced. This has led some to refer to MCAs as ‘payday loans for businesses’. Unlike traditional lenders, MCA providers don’t fall under finance regulations because they are buying receivables, and not making loans.

Tight credit markets and stricter lending criteria have made it necessary for companies to look at alternative forms of finance. Although these can offer benefits, they need to be scrutinized for their potential shortcomings.