Many business owners I talk to don’t have a problem growing their business, they have a problem managing that growth.
Often when a business grows rapidly without being prepared it can lead to strains on the owner’s time, stretched resources, unhappy and disengaged employees and pressure on the finances of the business.
Put simply, sometimes high growth businesses are too successful for their own good, or should I say that’s how they appear, when in all reality this can be managed before getting into cash flow difficulties. Sometimes the peculiar situation arises whereby a successful business appears to really be struggling financially when they don’t need to be.
What follows is some practical guidance for businesses of all sizes and in all industries for managing their cash flow.
Cash Flow Fundamentals
First and foremost it’s crucially important to understand how the cash flow of a business works. This is not the same as the profit a business makes. It is absolutely possible for a profitable business to go bust if they don’t manage their cash properly.
At the most basic level, cash flow is the difference between cash coming in to the business and cash going out of the business. It’s that simple right? Well, not exactly, some attention is required to maximise cash inflow and minimise cash outflow.
To ensure that cash flow is optimised we can concentrate on 3 key areas for maximum effect. These being Inventory, Accounts Payable (or Creditors) and Accounts Receivable (or Debtors). Let’s have a look at each in turn.
The purchasing of stock which will be re-sold at some time in the future, possibly as it is or possibly after some adaptation, has the potential for tying up your cash. If a business has its money invested in stock sitting in a warehouse then this can’t be spent on other things which may be of more immediate benefit to the business. Not to mention that the longer that stock is held increases the risk of waste, theft or obsolescence.
Only enough inventory should, therefore, be kept to fulfil firm orders unless the item is something which can be used in many product lines as this could increase response time to customer orders. The management of stock will require an effective supply chain but only that which is required imminently should be kept on hand. Keeping large amounts of inventory can mean increased costs associated with storing, managing and securing that inventory.
As a general rule of thumb, paying suppliers as late as reasonably possible will positively impact cash flow. Businesses large and small can take advantage of maintaining an effective and lean accounts payable function.
Where suppliers invoice on credit try to pay as close to the due date as possible, if you have a good reputation for paying on time you may also be able to negotiate extended credit terms meaning that your money stays with you for longer. Occasionally suppliers offer discount incentives for early payment, you should weigh up the benefit of the reduced cost against the benefit of extended payment terms at a higher amount. It very much depends on each individual situation and would need to be balanced against how much cash you have and whether your cash receives any interest invested anywhere else. If you’re short on cash you would probably be better not paying earlier than necessary.
A cautionary note, however, would be that not paying suppliers on time regularly can lead to reputation damage, supply chain interruption and withdrawal of credit facilities. This is not a position you want to find yourself in if you already have cash flow worries and will certainly make managing growth harder than it should be.
If selling to a customer on credit the first step before anything would be to determine the risk of selling to them by checking their credit history, whilst no guarantee it should reduce the risk of default on invoice payments. If a prospective customer has a history of non-payment then you need to determine whether you want the sale more than you want the money in the bank…the two are not the same thing.
Quite the opposite of accounts payable, the aim in accounts receivable is getting paid as quickly as possible. One way of doing this would be to reduce payment terms for as long as your customers will accept this. Another very effective way of getting paid on time is making it as easy as possible for customers to do so. There are a variety of ways that this can be done from electronic invoicing to accepting other payment methods or offering incentives.
In addition to all of the above, consideration should also be given to the selling price of products based on how complex they may be to create and deliver, so that you charge commensurate with the complexity involved.
One of the larger costs that businesses often incur is staffing, it’s always important to review workload and determine up to date and realistic staffing requirements- perhaps hiring staff to work in support functions is not the best option, that’s where specialist professional services companies come in.
On a final note it’s important to realise that often the business owner’s time is not best spent managing the day-to-day cash flow, that’s where accounting and bookkeeping businesses such as Sanay can help.