For long-term financial success, every company owner has to learn the art of effective cash flow management. One of the main issues faced by company owners is managing cash flow.
According to a recent Intuit report, 61% of small companies worldwide have cash flow problems. Due to cash flow problems, about one-third of those polled are unable to pay their debts, creditors, suppliers, or workers.
You may use a number of strategies in your business to overcome this challenge and maintain your cash flow.
Also Read: 18 Great Home-Based Business Ideas
Why is cash flow important to a small business?
Because it reveals how much money is really coming into and going out of your organization, rather than how much you are expecting from accounts receivable, cash flow is crucial for small businesses. If your cash flow is positive, you’ll know your earnings outweigh your expenses and you’ll have enough money on hand to pay your employees, make equipment improvements and purchases, make loan repayments, and take care of other important company expenses. If your cash flow is negative, you can find it difficult to pay your staff and suppliers, pay your rent on time each month, and have enough cash on hand for other everyday company expenses.
You should always give cash flow strategies top priority in your company planning for all the above mentioned reasons. When you effectively use such preparation, you’ll know precisely when you can anticipate having money put into or taken out of your bank account each month. With this knowledge, you’ll be able to determine when you truly have enough money on hand to pay for your bills. Consider it this way: Even if you’ve received a sizable payment from a customer, you can’t utilize that money until you get it, and cash flow tactics help you predict when that will be.
Adopting suitable accounting standards is a crucial component of your company strategy that may aid in cash analysis. Although companies may operate on an accrual or cash basis, Rohit Arora, CEO of small business loan provider Biz2Credit, urges every company to use both.
How does managing your cash flow affect your future?
Management of cash flow is essential to the success of your company. You can drive your business in the appropriate direction if you have a good sense of how to estimate cash flow.
You may outperform the competition if you are knowledgeable about cash flow tactics. Because you are familiar with the revenue cycles of your clients, suppliers, contractors, and vendors, you will even be able to forecast cash flow.
Every industry has peak and trough periods, and being aware of impending costs for employee overtime, replacement equipment, and other requirements will help to ensure that your company is prepared to manage any hiccups.
Identifying the financial flow your organization need is the first step.
The way to achieve this, according to Jay Singer, senior vice president of small business at MasterCard, is to assess the status of your company right now.
Singer told Business News Daily, “It’s crucial to understand how much cash you’ve been spending and expect to consume, as well as the amount of time it will take to acquire additional cash. While each company’s requirements are unique, it is advisable to keep enough cash on hand to cover up to six months’ worth of typical cash outflows.
Calculating cash flow
Understanding how to calculate cash flow is among the most crucial components of controlling it. The free cash flow formula, operational cash flow formula, and cash flow prediction are the three basic formulae that may be used to compute cash flow. Every formula has a distinct function.
- The resources that may be distributed among all of the company’s stakeholders are referred to as free cash flow. It demonstrates how much money you have available to put back into the firm, whether it be via the purchase of new machinery, the expansion of your retail space, or the purchase of a brand-new item.
- The operational cash flow formula gives you a quick snapshot of the daily cash flow in your company.
- Your cash flow for the next month, quarter, or year may be seen in the cash flow projection.
All three of these formulas are essential to knowing how much money is flowing in and out of your business at any given time:
- Net income + Depreciation ÷ Amortization – Change in working capital – Capital expenditure = Free cash flow
- Depreciation + Operating income – Taxes + Change in working capital = Operating cash flow
- Beginning cash + Projected inflows – Projected outflows = Ending cash = Cash flow forecast
Projecting cash flow
Planning when you’ll receive and spend money is a step in creating a budget. Examine your past year’s figures as a foundation for cash flow for the next year in order to properly estimate cash flow. After that, make adjustments for impending changes, such as new pricing, more staff, and financing sources.
You should revise your cash flow predictions as the year progresses to fully account for changes in costs and income. You may forecast future cash flow by comparing the anticipated cash flows to the actual deposits and outlays.
Adding money you already have to money you expect to receive is another tactic. Then, total the amount of that money you intend to spend.
Forecasts often alter for even the most prosperous businesses, so it’s crucial to keep an eye on cash flow.
Preparing a cash flow statement
The health of your business may be judged by your cash flow figures. They demonstrate that your company is strong and able to run continuously at all times.
On cash flow statements, there are several in-depth breakdowns can be found. To develop and understand your own cash flow statement, you’ll need to be familiar with the following concepts and components.
Cash from operating activities:
This represents the amount of money entering your company. This might be a concern if this amount is less than net income or is negative.
Cash from investing activities:
This figure ought to be negative. This includes the cash your company has spent on product development and internal improvements. These two actions are samples of the sort of activity we’re talking about.
Cash from financing activities:
This section shows how much money your business is paying to settle certain debts. Among them are potential dividends.
Net change in cash:
This represents the amount of money your business makes or loses as a result of investing and financing operations.
Net cash:
You may draw attention to the starting and final balances of net cash. Applying the net change in cash to the starting amount yields the ending balance. You can see how much money you have on hand in the final balance.
How do you get positive cash flow?
Obviously, the easiest approach for a firm to increase cash flow is via sales. You aren’t truly a company if you aren’t making sales. Of course, reducing operating costs also helps. It’s crucial to have comprehensive budgets and to cut down on wasteful expenditure.
What should you do if you have a cash flow deficit?
These are some choices you have if you have a cash flow deficit:
- Submit a loan application to a bank or an individual.
- Go to a bank and request a credit line.
- Increase the collecting procedure’ speed.
- Equipment purchases may be financed via loans or leases.
- Asset liquidations.
- Delay making vendor payments.
There may be occasions when you have extra money. You don’t want that money to just sit there since it can influence your future possibilities. Accountants advise you to put your excess to work. This may be accomplished by making short-term investments and utilizing the proceeds to settle debts more quickly. In this manner, you will gain from the money via interest generation or shorter loan terms.
Always seek the advice of a qualified accountant before making significant financial choices that may have an influence on your company’s future.
9 ways to manage cash flow
Monitoring cash flow consistently is the most crucial part of controlling it. You must be aware of both the total revenue received by your business and the amount that is now available for usage. These straightforward suggestions will help you manage your business and enhance cash flow if you are aware of your company’s cash flow accurately.
1. Don’t wait to send invoices.
Cash flow, once again, is important since it makes a distinction between bills you’ve submitted and those that have really been paid. That $10,000 invoice doesn’t mean much if you don’t already have that sum of money on hand to pay your bills. You should thus not be hesitant to issue invoices.
Instead of sending invoices once a month, you may want to switch to sending them once you finish a set amount of work. If your small company is an advertising firm, for instance, submit your invoice whenever you finish a certain amount of campaigns, ad spending, or other activities that month rather than on November 30.
2. Adjust your inventory as needed.
Check your inventory to find products that aren’t doing well on the market. These goods reduce your cash flow since the money you spend to buy them doesn’t result in sales and therefore income. By selling these less commonly bought goods at a loss and refraining from purchasing more stock until the present supply is gone, you may solve the cash flow issue. In a similar vein, you may always spend extra money stocking up on things that perform well.
3. Lease your equipment instead of buying it.
Although it is often less expensive over time, purchasing new equipment and upgrading out-of-date technology might be expensive in the near term (not to mention time-consuming). Instead, leasing your equipment might ease your immediate financial stress. Equipment leases often qualify for tax credits that lessen your tax burden, and you won’t have to update or attempt to sell outmoded equipment that you’ve bought. As a result, your cash flow will be more consistent and there will be fewer huge cash withdrawals from your bank.
4. Borrow money before you need it.
Preventing a cash flow issue is the ideal moment to do so. The best time to borrow money is now if business is doing well or if manufacturing has just started. When your stats are strong, you may obtain a company line of credit without worrying about being turned down later. Additionally, this will provide you resources to turn to in case you run into any growth difficulties as a new firm. For small firms, especially those affected by seasonality, Arora said a business line of credit might be a lifeline.
He said, “Ask for double what you believe you’ll need; you may not receive it, but it’s better to have reserves to draw on when circumstances are hard.” “Your cost of capital will be so much cheaper if you can secure a small company loan at 10% or less than if you place purchases on credit cards that have rates of 19% or higher.”
Arora advises refinancing for companies that are already drowning in high-interest credit card debt. Consider establishing a business line of credit, which may be available for as little as 6% or 7% interest, if you, for instance, make multiple transactions on credit cards that have interest rates of 20% or more.
Singer advises acquiring a small company credit card with an interest-free grace period to assist your short-term financing requirements if you haven’t opened any credit cards and are having trouble securing a loan. He said that credit cards may point out savings possibilities and that many even have cutting-edge reporting features that show spending patterns to assist company owners in maximising their cash flow.
5. Reevaluate your business operations.
Review your cost structure often to spot inefficiencies and initiatives that can be changed to boost savings. Arora proposes determining whether areas of the business may be contracted out to independent contractors and outside service providers. This will enable you to do the task without having to pay a wage or provide perks. Additionally, he advises employers to reduce part-time personnel during lean times.
The CEO of FundKite, Alex Shvarts, suggested monitoring, assessing, and improving other operational areas in addition to outsourcing.
He said that “some corporate activities may be modified and reevaluated for efficiency.” Shipping expenses, the employment of intermediaries, additional staff, allowed overtime, marketing returns, past-due bills, payments for rental equipment, stockpiling commodities while tariffs are low, and maybe requesting concessions from suppliers are some of these.
Your company strategy will vary along with the economy. Always seek for methods to make your product better and make investments in cleverer solutions.
6. Restructure your payments and collections.
You may be able to delay making certain payments to your suppliers until your company is financially stable, depending on who you’re dealing with. Try your best to keep things civil and stay clear of late fines.
To provide a more even flow of money for your company, reorganise the way you pay your suppliers. You may use this to make your suppliers become lenders. Consider adjusting payment expenses instead of payment dates if you are unable to do so. Meeting with new suppliers who may be able to provide merchandise and supplies at a lower price can help you achieve this. Even if you are not seeking to switch suppliers, according to Arora, you may negotiate a lower price by using the information from rival businesses.
Rearranging how your staff are compensated may also be advantageous to you. Although it’s a little point, how often your company performs payroll may result in some cost savings. Changing to a less frequent pay schedule, according to Shvarts, may reduce the administrative expenses associated with gathering, confirming, and tabulating payroll data. Your payroll withdrawals may be stabilised by using direct deposit. If you currently use a payroll system, be careful to calculate the costs of adjusting the frequency.
Selecting the most effective debt collecting procedure might also be quite important. You should be quick with your collections and, where required, take strong follow-up action on past-due accounts receivable. Establish a continuous collection strategy that reminds accounts receivable of the due date and amount. Bills that elude payment might accumulate.
7. Monitor where your money is going.
It’s not necessarily a negative thing to incur debt. In certain cases, borrowing money might be a short-term solution while your company develops the strength to survive on its own. However, if you take on debt, you should pay close attention to and assess how much cash you have available.
As Shvarts said, “a corporation should still determine how much debt it can take on in order to not be overleveraged. Taking on debt may be important to coasting through terrible times.” “The loan will be repaid either by investing in growth or when the customer pays an invoice, but those options involve taking time, interest, ROI, and other factors into account.”
Strategic borrowing may be an effective strategy if you have a plan for paying it back. You should keep an eye on your other spending and adjust as necessary. You may need to change your perspective from one of long-term investment, such as purchasing equipment, to one of short-term survival, such as leasing equipment.
You should keep track of your savings in addition to looking at your debt and spending. Even while operating with slim profit margins might make it challenging to balance growth capital and working capital, Shvarts said it’s crucial to have a rainy-day fund on hand. It could be time to reassess your profit structure if your company doesn’t have a business savings account.
Keep additional cash on hand not just for difficult times but also for times when a chance for development or a need for financial flexibility arises, said Shvarts. “Growing a firm puts a significant burden on cash flow since you have to make investments and add expenditures before the larger income starts to pour in. By all means, develop your little firm into a large one, but have some cash on hand in case the market suddenly declines while you’re developing.
8. Take advantage of technology.
You should use new applications and software upgrades, as well as other artificial intelligence-enabled solutions, as a company owner. These may enhance productivity and simplify your company procedures. Shvarts especially advises utilising technology to develop budgets and forecast cash flow, even though it can assist with any aspect of your firm.
“You can budget and easily estimate future cash flow when you can view all accounts payable and accounts receivable, along with the other financial complexities of your organisation, in one spreadsheet,” he added. Your information will be safe on the cloud, depending on the programme you use, so you won’t run the danger of losing or ruining printed papers.
For your firm, the appropriate technology and business tactics may have a significant impact. They enable you to focus more time on managing your company and less time worrying about cash flow. You may always employ a CPA or accountant to manage your cash input and outflow if you don’t feel comfortable doing it yourself. No matter who controls your financial flow, it must be done.
The goal of operating a firm, according to Arora, is to ensure that revenues outweigh costs and produce a profit. “Cash flow management is crucial to operating a successful firm [over the long term],”
9. Consider loan options.
Sometimes all a business needs is a rapid infusion of capital. Check out the available credit lines, business loans, and other financing choices. Two excellent options for receiving advance payments on unpaid bills are invoice factoring and invoice financing. It might assist your business in receiving the funds it is due before a customer is ready to pay. Keep in mind that you should only take on debt if doing so benefits your business.