Well, you know, you don’t have to be a finance expert, but money management is really important since if you don’t do it, it doesn’t matter how much you make, you’ll never have enough for tomorrow.

This is why we will be talking about money management. We’ll see 4 important tips and some concepts that will help you in your life about things that are even against common sense (like “Profit is not that important”).

So, let’s rock!

Prevent bankruptcy, always keep track of your cash flow (and forget about profit)

Let’s start with 2 basic definitions:

• Cash flow – all money movement that happens, be it income or expense. So, every time the amount you have in your bank account changes it is cash flow happening.
• Profit - sales less expenses. When you close sales you have profit, and when you order things you have financial loss (just loss, from now on).

You may be asking yourself now, why is this so important? This is because you must pay attention to your cash flow all the time, but you don’t have to make a profit all the time. I mean, if you always care about positive cash flow and cash flow management you’ll prevent bankruptcy and maybe you’ll never have loss, but if you just look at your profit you have a much higher risk of losing out on seeing the big picture and going broke.

Let’s say you close a deal for $10,000 to be paid 50% in advance and 50% upon completion. Your production costs are $7,000 but you have to pay it in advance. In this case you’ll have a negative cash flow of $2,000 at the beginning of the project ($7,000 paid but only $5,000 received) and your positive cash flow will occur when you receive the last $5,000 – by this time you’ll have both cash flow and profit of $3,000 (total of $10,000 – $7,000).

Hot money – Sounds good but tastes bad

Can you see how dangerous this scenario is? When you have negative cash flow you have to get what we call “hot money”. This kind of money is very expensive, so we pay high interest rates to get it for a few days only (credit cards, for example). And this money is used to fix the mess caused by negative cash flow (like paying suppliers). So in this example you’ll have to get $2,000 from nowhere and pay for it. You have profit but negative cash flow (in beginning).

Also you can experience deals with welcher clients. This is why it’s so important to collect a deposit for design work. This is especially dangerous for freelancers, because you usually have a low amount of profit from each sale, so you’ll have to work much more in order to compensate non-paid debts or high interest rates to be paid.

Try to look at your cash flow on a daily basis, and make your projections realistic with some days of payment delay and not 100% of projects that is almost-closed closing.

Don’t get in trouble in shortages, reduce your fixed costs

We have several ways to understand costs. A really useful one is to separate them into fixed costs and variable costs.

• Variable Costs - are directly proportional to your production activity. So, the more you produce, the bigger will be your total variable costs. Examples: raw material, electric power (since you need to power up your PC to work), coffee (since you need it to keep you awake :D ).
• Fixed Costs – aren’t clearly related to your production activity. So whether you have zero or one million projects they will still be the same (this is enough for now, but there is more thing to know about it). Examples: Employees payment, Rent, Child Support (heh), recently bought PC installment, software subscription…

This difference between fixed and variable is important to manage your costs. Especially for freelancers and small companies, because fixed costs can kill you in shortages.

If you look at cost structure of small companies and freelancers you’ll notice that their biggest expenses are fixed. Employees, servers, advertising. So when your sales go down, you stop your production and your variable costs can be dramatically reduced. But your fixed costs will remain the same. Then what would you do? You’ll have to start cutting costs, but maybe it’s too late.

What should you do then? Well, I recommend you cut fixed costs to a low-level, where even your worst sales prediction could pay them (read more about it below), and turn every cost that you can into a variable cost. Pick up pay-as-you-go plans, put variable items in yours employees payment (like production bonuses, sales commission…). You could also make easier to cut a fixed cost, like reduced compulsory threshold contracts.

Feeling like the money ends before the month? You need to know your break even point

Ok, now you know about fixed and variable costs. Another nice topic related to it is your break even point. This point is where your sales are exactly the same as your expenses, so you have zero profit, but also zero loss. Wikipedia defines it as:

“[...]the point where the total revenue is just sufficient to cover the total cost.”

Maybe its graphical representation explains better the concept

So, as you can see in this case we break even when we sell 7 items, or $1,250.

Thus, when you look at your break even point you know what you have to sell in $$ or quantity in order to not have a loss. You can get this point with an easy formula:

B.E. = Fixed costs / (Price – Variable Costs)

Let’s say your fixed costs are:

• Software subscription – $900 / year
• Rent – $1,000 / month
• Server – $50 / month

And your variable costs is:

• Service costs – 30%
• Taxes – 20% (Brazil)
• Savings – 10% (read more below :D)

So you know that you have $1,125 in total of fixed costs per month. If you charge U$75/hr you have to sell at least 37.5 hours just to pay all your bills (U$1,125 of positive cash flow to cover the upcoming negative cash flow). You should look at it now as a goal, so you’ll to do anything to achieve it.

To make easier, let’s break up your goal into 4 working weeks in a month. Now you have $282/week to sell.

If by the end of week one you get just $200 that means next week has to be good and you’ll have to get at least $364. And, if by the end of the month you still have this debt to cover, then maybe it’s time to make special prices or work more hours so you don’t have a negative cash flow.

Start your savings account NOW

Well, we all know that it is important to have a savings account, but who actually has one?

This is important, for example to save you when you have negative cash flow or when you see a good investment opportunity.

Study shows that 60% of small business owners fear not having enough money to retire. Don’t know about you, but I really don’t want to work from my bed when I’m 70 :)

So be it $10, $100, $1,000, it doesn’t matter the figure itself, what matters is the mindset to do this on a monthly basis for a long time. There is not much to say about it, but one thing that really works for me is see it as an expense. I keep it on the same level as my rent or my lunch, I have to pay it, or I’ll get in trouble.

It’s like Itau’s ad says “You or your money will have to work to the rest of your life”. Which one will you choose?

What do you think about it?

All this tips are pretty easy to implement. And these concepts are really useful in a wide range of situations. So, did you know about these things before reading?

I want to hear from you now, do you find it useful? Want to hear more about finance (for freelancers and small entrepreneurs, of course)?

Make a budget

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Making a budget is crucial. You have to have plans and goals financially no matter what you do. This is sometimes underestimated, but you have to make one if you really want to succeed. With a budget you can see if you are on track or not, what you need to change, where you have big costs and so on. It’s a great way of keeping an overview of your business. Anyone can make a budget, it doesn’t take a degree in economy. All you need is to get an overview of all the money that come in and go out and put them into system.

Track your time

Picture by Nathan Sudds

To be able to make a living from freelancing you need to track the time spent on each project. If you bill too few hours, you won’t be able to earn enough to keep going. If you bill too much, well – then you can most likely say goodbye to your clients. Getting a time management application for this can be a very good idea, unless you are into doing it old-school with a pen and paper. Just pick whichever system that works for you, and make sure to also include time spent on research and other preparations for specific projects.

Set your hourly rates properly

Picture by Ivan Prole

Many sell their services too cheap trying to get into the market. This usually will lead you to failure within short time. To be able to set your hourly rates how they have to be, you must have a full overview of what everything costs for you and divide it into hours. Then you will be able to see what you have to make to get even. After this you will have to make a decision on how much you should have left. In many countries there are set average tables for what freelancers usually get paid in different niches, so you may want to check that out as well. To save you some of that work, check out the hourly rate calculator over at Freelanceswitch. CLICK HERE to visit it.

Make offers that are easy to understand

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When a client is getting an offer you should take some extra time while calculating it. Make sure to include everything and make your own copy of the offer to keep – with explanations to how you’ve calculated it. This way it can be easily altered if the clients wants something else included or if you need to have a look at it yourself afterwards. This way you do a very important part of the job beforehand. This will also help you when you are going to send out the bills.

Make offers that can be altered

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Make sure to include in your offers (at least the bigger time-consuming ones) that the price can be changed by up to a certain percent due to market changes or unexpected costs. The usual percentage to use seems to be around 10%. This way you will cover some extra work in case it turns out that something is a bit more time-consuming than you thought at first.

Bill your clients regularly

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To not lose track of how much clients owe you, you have to get set routines for billing. If possible you should have a specific date monthly to send out the bills, or have a routine of sending them out due to the agreement with your client. This way you will have a good sense of how much you have coming in and make sure it doesn’t take too long before you get paid. And while you’re at it – make a routine for how to send reminders to those who haven’t paid in time.

Invest in your business

Picture by Thiago Miqueias

A certain amount of what comes in should be spent on your business. This can be upgrading software or your own knowledge by taking a class or buying books/magazines. For most freelancers it’s very important to stay updated on the latest technology and what goes on in the market. Because of this you should have a post in your savings that is marked for that purpose.

Marketing

Picture by Will Thomas

Another thing you would want to spend some money on is the marketing of your business. This can be done be either by investing of your time to do certain things for yourself and/or paying someone else to do it. It can be the redesign of your website and portfolio or a simple thing as buying an ad through an advertisement system. With all the competition in the market it’s very unlikely that your products will sell themselves from day one.

Save

Picture by Sanja Gjenero

I repeat this a lot in many of my articles, and it can’t be mentioned too many times. You have to put a savings post into your budget. No matter how well you earn – it won’t help you much in critical moments if you’ve spent everything. You will run into situations when you need to repair equipment or buy something new. You may also experience that a client doesn’t pay when he’s supposed to – or that a project takes more time than expected. Because of this, that buffer of savings can be very valuable.

Shop smart

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When it comes to office supplies, coffee, equipment + + , shopping smart can make a huge difference in your budget. Don’t get the cheapest of everything if it takes away quality. But there’s often someone selling that exact keyboard you’re getting a little bit cheaper, a cheaper insurance company and so on. What may seem like a tiny dollar here and there can quickly turn into hundreds and even thousands of dollars over a whole year.  You should also think through it before going out to eat every day. Buying something in bigger quantities can help a lot.

Insurance

Picture by Piotr Dorabiala

Make sure you have insured yourself, along with your equipment. This monthly/yearly fee can seem “unneccessary” if nothing happens, but when that moment comes when you need it – you will see that this is an investment in the safety of your future. Check out different insurance companies, listen to the advice you get and get offers from different ones before you decide. Thinking that nothing bad ever will happen to you is an unrealistic thought that can cost you a lot of money and maybe your business if not taken seriously.

Be prepared to adjust

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If you have a budget with set plans for the next months or year, there is always the chance that something will not go as expected. The good thing is that you have a budget that you can monitor occasionally to see the signs early on. Because of this you should aim to have the ability to adjust on short notice. Be prepared to work extra hours in some periods to make ends meet, and be prepared to put in extra hours during the end of deadlines.

We hope these tips were useful to you. Remember that there can be variations from country to country when it comes to laws and regulations. Still most of these tips should apply to most freelance workers out there and hopefully be helpful advice on your road to success!

Thank you for reading this article, we would highly appreciate your comments. Don’t forget to share this article if you found it to be an interesting read!