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When you’re interested in investing in a business, it is essential to understand whether or not that business is financially stable. Therefore, you must thoroughly understand the business’s financial position. What’s more, you need to know your own risk tolerance. These factors will help you to determine if and how much you should invest in a business. Here are five indicators of a financially stable business.
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Steady Increase in Revenue
A financially stable business should have a steady increase in revenue. You can determine the company’s revenue by looking at a its profit and loss statement. Do you see a consistent increase in revenue month after month, year after year? Not all businesses will have exponential growth. However, a business that is stalled or decreasing in revenue could be a bad investment.
A Mix of New and Repeat Clients
Businesses rely on their clients—both repeat and new—to sustain their business model. Therefore, it’s crucial to understand how many of their clients are new and how many have supported the company before. Return clients cost less to acquire than new clients. However, it is essential to have a mix of both to maintain a healthy business.
Expense and Revenue Growth
A stable business will have expenses that rise in line with the percentage of increased revenue. Significant initiatives may require more expenditures in the short term. However, in the long term, the increase in expenses should not surpass the increase in revenue. For example, if a business has a five percent growth over one year, the increase in expenses should be five percent or less.
Favorable Market Position
A business could be financially stable but still end up in a market that is in low demand. As the economy changes, businesses are forced to change with it to stay profitable.
Up and coming markets may benefit from an influx of interested investors who have done their research. For instance, this is what happened with certain legal marijuana businesses. Some of them grew into having some of the best marijuana stocks in the country.
In other markets, as demand weakens, businesses may not see the level of investment they previously enjoyed. It’s important to research and understand how market changes can affect investment opportunities.
The word “liquidity” refers to the amount of cash that a business has at its disposal. This can be in the form of actual cash in the bank or assets that can be quickly turned into cash. Liquidity is essential for a business. That’s because cash is required to fulfill short-term expenses. These include supplies, payroll, insurance, and purchasing inventory. A business with low liquidity may have a lot of inventory or a beautiful building but still have trouble paying its bills. Without cash on hand, a business can falter and run into problems.
On the other hand, a business shouldn’t have too much cash on hand. That’s because too much cash on hand can indicate that management lacks the foresight to invest in and grow the product or service.
Investing in a business is exciting. However, it pays to do your research ahead of time. You’ll want to make sure the business is financially stable and worth the risk.