Financial management is one of the most important elements of running your business. But as the UK continues to contend with the lingering economic impacts of the COVID-19 pandemic and Brexit, conscientious money management has become an absolute necessity for future-oriented business owners. Conscientious money management starts with financial optimization.
If you’re unfamiliar with the concept of ‘financial optimization,’ we’re here to shed some light on this practice for you. Here’s a little crash course into financial optimization and how small business owners can utilize this mathematical theory to manage their business expenses more effectively in the long term.
What is financial optimization?
The first thing you should know is that financial optimization exists as both a mathematical theory and a business practice. You can exercise financial optimization in a variety of different ways.
For instance, financial optimization can be as simple as setting up payment streams specifically for your business expenses and earnings. Business owners can set up a business transaction account to separate their company spending from their personal spending.
On the opposite end of the spectrum, financial optimization can be as sophisticated as hiring a dedicated accountant or financial specialist to develop mathematical models for managing your company budget. Dedicated financial specialists can use mathematical theories to help manage a company’s finances as that enterprise’s earnings and outgoings grow more complex.
In a nutshell, financial optimization is simply the process of allocating your company’s financial resources most cost-effectively and in alignment with your business’ performance goals and objectives.
This means optimizing your company spending to make more focused business investments and ensure that your business always has the funds it needs to address any of your company’s identified risks. But more on this below.
Financial optimization and risk management
Managing a company’s finances isn’t far removed from balancing your personal budget. This is because any savings journey is accompanied by just as much thought for risk management as investing in your growth. Businesses have to prepare for ‘rainy days’ just like we do. In this regard, financial optimization is just as much about risk management as asset allocation.
The foremost priority for all business owners should be that they have enough company funds to address any risks or obstacles they may come across over their company’s lifespan. Risk identification and management is best conducted with the support of a dedicated financial specialist – be it a third-party consultant or a member of your staff.
And if you are a small business owner currently experiencing a little bit of money stress, keep in mind that you’re not alone. Thousands of other small and medium-sized enterprises across the UK alone are currently undergoing this same optimization process, and all are starting with building their ‘rainy day funds’ first. Once again, this is another superb reason for opening a business bank account with secure staff guidelines for accessing your company funds.
So long as you’re able to effectively identify and outline your company’s risks and how best these risks can be mitigated, it would help if you had a strong foundation for your business’s financial optimization process. Rest assured, you can focus on asset management and allocation once your company’s baseline emergency fund requirements have been finalized.
Optimizing with mathematical modeling
Now that we’ve explored the two pillars of financial optimization (risk management and asset management), it’s finally time to shift our focus to how this unique form of optimization actually works. As mentioned, financial optimization is a fixture of data science and mathematics.
This unique area of study has seen the development of a range of different mathematical models, the most commonly known being linear, quadratic, and stochastic models.
Granted, we don’t need to go too in-depth in exploring these mathematical models because the theory behind these is only relevant to statisticians and analysts. Even so, it’s worth engaging with the basic principles behind these models to implement your own versions for your business.
Let’s start with the linear and quadratic models first. As you may have guessed, linear optimization models operate based on one asset (or business investment) and the growth it can generate over its usable lifespan. Contrastingly, a quadratic optimization model looks at growth and decline, following both ends of an x-axis.
Quadratic optimization programming is valuable in finding the profitability (or optimal value) of a graphed action or activity over time and for evaluating linear equations with one additional variable to reflect an accompanying real-world context (i.e., supply and demand vs. costs of your company’s offered products or services, etc.).
Then, there are stochastic models, which allow financial analysts to examine an action or activity alongside multiple additional variables, not just one. Financial analysts typically use stochastic modeling to determine whether or not to make a financial decision like an investment.
In business financial management, stochastic mathematical models allow business owners to estimate the profitability of any business expense within a reasonable margin of error. For business owners looking to extrapolate from limited (but thorough) data sets, stochastic financial modeling can help optimize your business budgets with greater confidence – resulting in more focused financial decision-making.
By implementing these models in your own business with the assistance of your accounting team or a dedicated financial specialist, you should find that optimizing your company’s finances becomes more methodical and directed. This will ensure you’re making the right financial moves for your enterprise.
Maintaining optimized financial management practices
Once you’ve derived some real findings from your financial optimization work, it should finally be time to implement the new budgets and spending practices you developed over this optimization process. This means conducting training sessions with your staff to ensure that everyone’s on the same page regarding asset allocation and the distribution of company funds.
It’s important to ensure that your employees are given the space to request amendments here so that they know that the optimization process has also been for their benefit as well as for the good of the business.
It’s also important to remember that financial optimization is a task that can never be completed. Even if you maintain an optimized financial model for your company over the next quarter or two, changes to your business structure, supplier relationships, or distribution activities can easily increase business expenditures. And where there’s an increase in expenditure, you’ll likely need to reassess your company’s financial performance once again.
With that, many businesses are implementing financial optimization and strategizing as a quintessential part of their business accounting and development initiatives over the long term. Work with your finance team regularly to ensure your company uses its funding as effectively as possible. Doing so can help your business maintain a strong fiscal footing over the long term.
In conclusion, financial optimization can feel like a far more technical process than it actually is a lot of the time. Mathematical modeling aside, financial optimization is simply the process of reviewing your company’s financial performance and then using this information to determine where improvements can be made.
Whether analytical findings support these improvements or are simply actioned on as ‘no brainers’ is up to you and your fellow business owners or stakeholders. So long as your financial optimization work results in revenue growth or bolstering your company’s bottom line, you’ll know that your financial management is being well taken care of.
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