03 Jan How To Manage Cash Flow and Avoid Loans
Managing cash flow is an integral component of every business. With proper management of funds, you can avoid taking out loans. Having a profitable business does not necessarily dictate positive cash flow. There are many factors involved in managing cash flow properly.
What Is Cash Flow In Business and Why Is It Important?
In order to understand how to manage cash flow, it is important to clarify what cash flow means. Cash flow is the actual amount of cash flowing into and out of your business. A positive level of cash flow needs to be maintained in order for your business to remain operational and profitable.
Businesses constantly have money coming in and money going out. This operating cash flow can be broken down into two subcategories; they are referred to as cash inflow and cash outflow. Any successful business will have a give and take balance between the two. Cash inflow primarily comes from regular day-to-day operations. This is money paid by your customers for goods or services rendered. Cash outflow covers money used for daily operations, including payroll, costs of goods sold, utilities, rent, and any other business operating expenses.
A persistent negative cash flow can have detrimental effects on your business. It will force you to take out loans just to keep up with operations and will have you constantly struggling just to play catch up, let alone having the time to actually focus on and grow your business. It is therefore vitally important to maintain a positive net cash flow.
Cash Flow Management Techniques
If you are suffering from negative cash flow, you need to identify whether it is because of poor profit or poor cash flow management. If it is due to a profitability issue, learning to grow your profits is a topic for another time and will not be covered here. However, if it is due to managing cash flow poorly, there are many techniques available to turn things around and maintain a positive cash flow.
Once you have established that your business is profitable, i.e., sales are high, margins are good, and balance sheets are positive, you can identify why you are struggling with cash flow. In simple terms, it is because your cash inflow is not happening at a rate that is fast enough to ensure the funds to cover your cash outflow. This means that you are not receiving payment from your customers in time to cover monthly or even weekly business operating expenses, including rent, payroll, marketing costs, etcetera.
Here are several helpful cash flow management techniques that will ensure you have working capital, with money available to meet your day-to-day business obligations.
- You can only get control of your cash flow by understanding your cash flow. Work with your accountant or bookkeeper to project future cash flow and structure your business operations accordingly. If needed, work with a debt management plan to get control of outstanding credit card bills and the like.
- Improve collections on invoices by offering incentives for early payment. Also, be sure to send out invoices promptly to avoid unnecessary delay. Your customer may have funds to pay on the day of the sale, but if you take an additional three days to send over the invoice, you may end up waiting another month to receive payment.
- Restructure your regular payments. Work with your vendors to negotiate better payment terms or find new vendors with terms that align better with your business. You can also alter your payroll schedule and have it run bi-monthly instead of weekly.
- Budget your business expenses and reduce overhead. Over time, you can accumulate lots of unnecessary overhead, i.e., paying for services you no longer need, or not being aware of better rates that are available. Know your budget and work your expenses accordingly.
- You can outsource collections to increase payments on old accounts receivable. You can even outsource customer service and data entry overseas and pay a fraction of the cost of maintaining full time employees.
- When needed, you can get payroll funding to help offset a temporary lack of funds.
Managing Cash Flow Problems
With the above techniques at your disposal, you can begin to manage your cash flow issues. It may seem daunting, but as you incorporate these techniques into your day-to-day business operations, you will be surprised at how quickly you can begin to manage your small business cash flow problems. Keep in mind that cash flow problems due to growth is a common difficulty that small business owners experience as their business increases sales. More sales means more purchasing, which means more money being spent, and more money that you are waiting on in accounts receivable.
Whether you have an in-house accounts receivable team or whether you outsource to an accountant, it is of utmost important to constantly maintain communication and touch base on incoming and outgoing funds. Work together to review monthly expenses and have regular meetings to brainstorm ways to increase cash flow and reduce overhead expenses.
All of the techniques above have been highly effective in generating positive cash flow and maintaining good working capital. However, sometimes it pays to get creative and brainstorm on your own. Some of the best ideas come from out-of-the-box thinking.
For example, one business owner decided to reach out to his customer and have a direct conversation about open invoices. He explained that he understands why the customer cannot pay earlier since cash flow cannot always meet the business demands. Then, he questioned whether it was any easier to pay the invoice after 60 days than it would have been on the day of sale, or did so many more invoices accumulate since the purchase that it was just as difficult to make the payment a whole 60 days later? The customer conceded that it was just as difficult to pay 60 days later than it would have been at the time the invoice was originally issued. He admitted to always paying the oldest invoice first due to ongoing cash flow issues.
The business owner acknowledged this and said that he would like to work with the customer to create new payment terms that would benefit them both. He suggested that instead of being on the customer’s back to pay the invoice after the stated 60 or 90-day period, he could offer a 120-day payment plan, and that the customer could pay in weekly or monthly installments. This way, the customer is allotted more time to pay their invoice, while the business owner can be satisfied because there are regularly scheduled payments coming in.
This technique benefits both sides of the business transaction, the vendor and the customer. The customer can breathe easier knowing he is not expected to pay a huge lump sum and the vendor can profit from having regular funds available to cover his daily business expenses.
Always communicate with your vendors and your customers. It can be astounding how much can be accomplished with a few simple conversations. Discuss this strategy. As a vendor, offer and encourage your clients to pay in installments over a longer period of time. As a customer, request to pay in agreed-upon installment amounts instead of one lump sum payment. And finally, as a business owner – which includes being both vendor and customer – you will benefit with a better, more consistent, and more predictable cash flow.