The Acid Test, also known as the Quick Ratio, is derived from the Current Ratio.  Thus, we need to briefly discuss the Current Ratio first.  Anyone that is currently running a business or is in the planning or startup phase will want to be concerned with managing the cash flows of the business. 

The Current Ratio does just that.  It is simply the ratio of the firm’s current assets divided by the current liabilities.  The current assets are those that are the most liquid – namely cash, accounts receivable, and any inventory.  Current liabilities are those bills that are due within this year (the current term).  If your firm’s current liabilities begin to exceed the current assets, you run the risk of a cash shortage and could soon be facing liquidation just to meet your current obligations.  You don’t want to be forced to go deeper into debt just to pay your monthly bills as this only makes it harder for your business to continue to survive.

If you take the inventory out of the Current Ratio you are now left with the Acid Test.  This is basically a method used to determine the liquidity of the business, namely how much cash is on hand to pay the monthly bills.  The acid test is also an excellent gauge when used along side the Burn Rate, which is simply the amount of money being spent in a given period during the startup phase of the business (or a period of less income than expenses – this could be an off season, such as a homebuilder in Minnesota during the winter). 

If you know you’re burning through $3,000 per month and expect break even to be reached during the 7th month of operations, you know you need $18,000 to carry you over till you start to break even and turn an operating profit (6 months times $3,000). 

If your Acid Test ratio is less than 1.00 you know your cash is less than your current debt and you are going to face a cash crisis soon unless you can turn things around.  The Acid Test could be less than 1.00 because sales were not as high as expected (thus not as much cash in hand and you are holding more inventory – which as you know we do not include inventory in the Acid Test) or it could be that your business is taking on too much debt given the amount of money it’s bringing in (e.g. you owe $10,000 each month and only bring in $1,000 in sales).  We don’t include the inventory in the Acid Test because, well to be quite frank, you’ve obviously not sold it yet and if your company is struggling it could be that no one wants the product!  When a company has to be liquidated, it seems inventory is always sold pennies on the dollar.  This is the reality check part of the Acid Test. 

An Acid Test of 1.00 means your cash and debt levels are equal.  Please don’t think that equal means optimal!!!  The higher the ratio the better.  What if sales dropped off and you start burning through more cash?!  The ratio would quickly slip below 1.00.

One final note about Acid Tests, Current Ratios, and Burn Rates: these numbers are only representative of what is going on in the business today.  I would be much less concerned about a startup with an Acid Test ratio of 0.80 that just landed a huge contract with a Fortune 500 company than another entity that has an Acid Test ratio of 1.20 and is in the business of making typewriters, payphones, or door-to-door sales of encyclopedias.  I’m sure you all understand why that is.  If your business and its industry has a bright future, it’s understandable that you are taking on additional debt now to get your operations up and running.

To sum it up:  if you have an Acid Test ratio less than 1.00 your Burn Rate will be accelerating and you will see a more rapid depletion of cash in your business in the near future.  An Acid Test ratio greater than 1.00 will generally indicate more cash coming into your business (this could be from increasing sales and/or a reduction of current liabilities) and is a rough indication of growth or growth potential.

There are several to choose from:

• Sole Proprietor
• Partnership
• Joint Venture (for combining two or more existing businesses in a given project)
• C-Corporation
• Limited Liability Corporation
• S-Corporation

Since most people are familiar with the more basic sole proprietorship and partnership models, we will skip those and examine the pros and cons of the various types of corporations. We are also snubbing joint ventures since those are mostly done in a specific project setting between multiple companies.

C-Corporations

The C-Corporation will be your basic company that maintains its own financial statements and can choose to reinvest earnings or distribute them as it sees fit. The income or losses will be reported on the company’s own income tax filing and any dividends will be taxed to the individual shareholder.

Since many start-ups are smaller in nature it makes sense that an entrepreneur would not want to pay income tax as a C-corp and then again as an individual. This brings us to our next two forms of incorporation:

Limited Liability Corporations

The Limited Liability Corporation, or LLC, passes earnings on to the shareholders’ income tax return (so it is not taxed at both the individual level and the corporation level). However, if you are the SOLE owner of an LLC you will be taxed as if it’s a sole proprietorship. You may still have some of the limited liability protection that an LLC provides; for instance your personal assets may be shielded in the event the business venture goes bust.

However, most lenders and creditors are wise to the fact that a one-person LLC is really just a sole proprietorship that’s incorporated for liability purposes. Therefore, the creditors will want you to personally guarantee the repayment of any loan, usually by making you personally responsible for the debt if the business goes bust. This makes sense when you’re the only person owning/running the organization as you ultimately affect the degree of success that your business achieves.

S-Corporations

Another form of business that you may consider, especially if you’re flying solo and were thinking about filing the LLC method, is to form an S-corporation. The “S-Corp” is purely a tax maneuver with the IRS. You file the C-corp articles of incorporation the state of your choosing. You then submit the Form 2553 with the IRS and select S-Corporation. This form of business venture allows the income to pass through to your personal income tax so once again, like the LLC, it is not taxed twice (once as a corporation and once as an individual taxpayer). It’s important to note that you need to file this form within 75 days of filing your articles of incorporation, otherwise you have to wait until the next year (by March 15th if your new company operates on a calendar year) to change your tax status. You would operate as a C-corp in the meantime.

The S-corp is more limited in use than the LLC or C-Corp. An S-corp may not have more than a handful of owners… I read in one place 75 owners and in another place 35 owners. I need to seek clarification on this part. Regardless which number it is, or even if it’s neither of those numbers, that is still a limited number of shareholders allowed. Also, you cannot have more than 25% of your company’s gross receipts as passive earnings, i.e. rental property/real estate that you are not actively managing the business. If you’re a landlord but spend more of your time doing other things, it’s probably better to file as an LLC. An LLCs stock can also be held by other entities such as other companies (or even parent companies) whereas an S-corp can only be held by individuals who are U.S. citizens or permanent residents.

Wow, it really sounds like I am touting the LLC over the S-corp. Well, that’s not necessarily true. It depends on your individual situation: how many owners you have, how many of the owners are actively involved in the business, how the ownership and profits are to be split up, and so forth. A drawback to the LLC in this respect is that members (owners of LLCs are referred to as members) would have to show a gain made by the LLC regardless whether or not that gain was distributed to them by the LLC or the LLC reinvested those earnings into the company (gains not distributed are referred to as “phantom income” because it was never received). If the company reinvested earnings over multiple periods, this could have a compounding tax effect (added taxes without realized gains) by the various members. One way around the phantom income problem in an LLC is what’s known as “gross-up” clauses to be added to the LLC’s operating agreement. These clauses simply state that the LLC will reimburse the shareholders for tax incurred on income that they did not receive.

As you can tell, the water is getting kind of muddy, but I hope when you analyze your own situation you can pick out the pros and cons of the various forms of incorporation and choose one that fits you best!

Solo Signal is a blog for anyone interested in learning more about the web development process as it relates to business through simple, easy-to-understand articles. We hope to provide business-minded individuals with the information, tools and understanding needed to successfully leverage the Web for their benefit.

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• Use redundant words
• Sound shady
• Be lurid
• Use triple words
• Sound desperate

Do:

• Go medieval
• Name it like a Spanish restaurant
• Like it like something Captain Kirk would wrestle

Curious? Read the full article.

[via c|net News]

StartupNation has completed research focused on how to grow businesses and has compiled their findings into a great guide: 10 Steps to Grow Your Business. Once you have made it over the hump of starting-up, it is time to start growing your company. This guide provides detailed steps for accomplishing this task.

1. Measure and Analyze Your Current Status
2. Get Efficient through Technology
3. Enhance Your Customer’s Experience
4. Cozy Up with Vendors
5. Maximize Your Niche, Expand to a New One
6. Develop New Channels
7. Acquire Growth Capital
8. Create a Culture
9. Ramp Up Awareness and Demand
10. Improve Sales Techniques

A seed does not become a tree without some growing! Also make sure to check out StartupNation’s 10 Steps to Open for Business

• Advisory Capitalists
• Liquidation
• Startup Strategy
• Characteristics of an Entrepreneur (Please don’t let these discourage you!)
• Selecting a Venture Capital Firm
• When to Raise Capital
• Entrepreneur’s Pitch
• Term Sheets
• Success Stories

Read the full article: 75 Blog Posts to Read Before Talking to a Venture Capitalist

1. A good business card starts a conversation
2. Make sure your card can be scanned
3. Don’t make non-standard sizes or shapes
4. Make sure the basics are on there
5. Include a line about what you do

Read on for the full list and descriptions: Business Card Best Practices

The series has nine seminars scheduled between September 14th and December 7th:

• Generate Referrals for Your Business
  John Jantsch, Duct Tape Marketing
• Introduction to Pay-Per-Click Advertising
  Andrew Goodman, Founder & Principal, Page Zero Media
• Advanced Pay-Per-Click Advertising
  Andrew Goodman, Founder & Principal, Page Zero Media
• Introduction to Web Analytics
  John Marshall, CEO, ClickTracks
• Advanced Web Analytics
  John Marshall, CEO, ClickTracks
• Introduction to Building Traffic to Your Website
  Jennifer Laycock, Search Engine Guide
• Advanced Traffic Building Techniques for Your Website
  Jennifer Laycock, Search Engine Guide
• How to Successfully Manage Projects
  Craign Fitzpatrick, CEO, Devshop
• Persuade More People to Do Business on Your Website
  Jeffrey Eisenberg, Co-founder & CEO, Future Now Inc.

Visit the FreshBooks Fall Teleseminar Series website to sign up for free.

While more than half of the approximately 600 business owners surveyed said it would have been easier to start their companies had more money been available, start-up financing was not the only challenge they identified.

Forty-nine percent of respondents said advice from other business owners also would have made their start-up days easier, while 39% said a better understanding of financial management would have helped.

Additional statistics:

• 73% of start-ups were primarily funded by the owner’s personal savings
• 37% of start-ups were funded in part by loans and lines of credit
• Only 31% of small business owners surveyed started with business plans

Story on Inc.com: Most Entrepreneurs Start with Limited Funds, No Business Plan

There are plenty of small businesses that need invoices that look professional, are easy to manage, and easy to send out. Blinksale, Freshbooks, and Simplybill caught on to this market and have developed websites that offer small business owners an easy way to deal with invoicing (amongst a few other things). On the outside it looks like they are all doing the same thing, but if you dig a little deeper there are some key differences that may help determine which ones are going to sink or float.

• SimplyBill � “Nothing really stood out as unique, different, strong, or with much impact.“
• BlinkSale � “They picked their battle and stuck to it with outstanding execution.“
• FreshBooks � “They target their solution well and have enough options to keep people happy, but not so many that it loses its simplicity.“

Read the full review of these three services: Online invoicing, the contenders