Photo of a business owner who is creating a financial plan for their business.

5 steps to create a flexible and lasting financial plan for you and your business

This chaotic year has taught business owners many lessons, says Amy Friedrich, president of U.S. Insurance Solutions for Principal®.

One is the need for long-term financial planning that gives your business the flexibility to handle drastic volatility.

“Owners probably have learned enough just in the last several months to see how they might prepare differently to protect their business against the next setback,” Friedrich says.

These five steps can help you build a financial plan to ride out both the smooth and bumpy times:

1. Cash reserves: Make sure you have the cash on hand to support your business through a downturn. Avoid raiding personal finances to keep the business afloat.

You don’t want to risk your personal finances by taking out a second home mortgage for your business when stockpiling cash in the boom years might have prevented it. The old rule of thumb was a six-month cushion.

Yet six months into the pandemic, it certainly doesn’t feel like we’re beyond it, says Mark West, national vice president of business solutions for Principal. This tumultuous year is an argument for doubling down on the old rule.

“The worst-case scenario?” West says. “You have a year’s worth of cash reserves and don’t need it. That’s not a bad outcome.”

If you must tap into other emergency cash, “make sure you understand all the sources of cash at your disposal and in which order it makes sense to use them,” West says.

One common forgotten source is the cash value of a permanent life insurance policy . While the main purpose of life insurance is to provide a death benefit, the cash value that accumulates in some permanent life insurance policies can be used during your lifetime.

2. Business succession: Plan for how your business can launch you into your next phase—with both your financial security and comfort intact.

The first step to a successful business succession can be as simple as answering the who, what, and when: Who do you want to sell your business to, what’s your business worth, and when do you want to sell?

Map out a realistic timeline locked into place by a well-funded buy-sell agreement. Your agreement should:

  • identify a buyer and fair price,
  • outline the next generation of business management,
  • protect employees, customers, suppliers, and creditors during the transition, and
  • establish an accurate value for the business.

Give yourself time to adjust, West says. Some owners who want to hand down the business to a family member as a gift don’t consider in detail how, without their business, they might lack the necessary income to support the next phase of their career or living expenses. Those extra years may allow you to balance the right successor and the right income.

3. Business valuation: This crucial number determines lines of credit, acceptable debt load, and even the timeline for selling your business.

If a surprise event forces you suddenly to sell your business, you or your successors—or both—could end up frustrated if the value of the business is a shock.

“Knowing the value of the business is the foundation to planning,” West says. “A business owner can have all kinds of great ideas, but they’re worthless if the owner can’t put solid numbers to what they really mean for both owner and buyer.”

Knowing the value of the business is the foundation to planning.”

Mark West, national vice president of business solutions

Only 4% of the buy-sell agreements reviewed by Principal reflect a current value of the business.1 But you can take steps now to prepare. After all, you’ve poured a lot of yourself into making your business successful. Think about getting some of that back.

Principal routinely provides informal business valuations at the request of financial professionals working with business clients on succession planning.

4. Preparing for an economic downturn or the loss of a key employee: This pandemic is hard enough, but it’s just as important to plan for the next business disruption.

“Business owners—small business owners in particular—are so often absorbed in the moment because of the all-consuming nature of their work,” Friedrich says.

Try to take a minute to pause, she says. What have you already learned from 2020 that you might do differently next time?

  • Set aside more money?
  • Take care of your employees differently?
  • Trust different sources of information?

When you do get to the point of adapting your business to better prepare for the next disruption, no one solution is right for all owners. Your benefits package should reflect that. You or your key employees may need help with basic income or life protection. Or maybe you’re more interested in helping your employees save for the future. In this pandemic you also may be concerned about the work capacity of employees as they manage new responsibilities such as more personal time devoted to childcare or even homeschooling.

And don’t underestimate the value of playing an active role among a network of fellow leaders who can share ideas and encouragement as you navigate that volatility.

Invest the time to build up connections in your local or regional business community. As you take care of your finances and employees, you can benefit from the support of your peers.”

Amy Friedrich, president of U.S. Insurance Solutions

“Invest the time to build up connections in your local or regional business community,” Friedrich says. “As you take care of your finances and employees, you can benefit from the support of your peers.”

5. The financial-professional perspective: They’re often also business owners and can empathize with what it means to balance a successful operation today with a more secure future.

Businesses in nearly every industry rely on technical experts—a CPA, an attorney, etc.—for essential functions. The role of financial planning, especially during economic volatility or a downturn, is part of this group of outside experts to help your business succeed. A financial professional can help choose solutions for you, your business, and your employees.

Think of them as a reliable partner to remove some of the burden of planning to help you focus on running your day-to-day business. When seeking the right medical doctor, you probably scrutinize and screen your options. You should do the same with financial professionals—for the health of both your business and personal financial future.

“Trust absolutely is the critical component,” Friedrich says. “It’s your job as a business owner to go through a deliberate process when you look for a financial professional, and it’s their job to earn your trust.”

What’s next?

1 Review of 1,561 buy-sell agreements by Principal from Jan. 1, 2014, to Jan. 31, 2018.

The subject matter in this communication is educational only and provided with the understanding that Principal® is not rendering legal, accounting, investment advice or tax advice. You should consult with appropriate counsel or other advisors on all matters pertaining to legal, tax, investment or accounting obligations and requirements.

Insurance products issued by Principal National Life Insurance Co (except in NY) and Principal Life Insurance Co. Plan administrative services offered by Principal Life. Principal Funds, Inc. is distributed by Principal Funds Distributor, Inc. Securities offered through Principal Securities, Inc., 800-247-1737, member SIPC and/or independent broker-dealers. Principal National, Principal Life, Principal Funds Distributor, Inc. and Principal Securities are members of the Principal Financial Group®, Des Moines, IA 50392.