Importance of cashflow in a small business
If you’re a small enterprise owner, you’ll be very aware of the peaks and troughs that you experience in business throughout the year. Even if you’re not seasonal, all businesses have good and bad months; it’s just how it is. But if you worry that leaves you at the mercy of the market, there is good news. Small businesses have some great tools to manage these ups and downs, and one of them is cashflow. Done in the right way, cashflow management can save your business from disaster and boost it towards growth when things are going well. So with that said, what are we actually talking about here?
What is cashflow?
In simple terms, cashflow presents the flow of cash coming into your business against the flow of cash going out. It’s usually assessed over a set period of time, and is a good indicator of the general health of your business. This is because, bottom line, it highlights what pot of money you have to access if you need it immediately. And, again bottom line, sometimes that can mean the difference between survival or collapse.
Why does cashflow matter?
To illustrate this point, imagine you have a major customer who has placed a big order with you. You’ve spent time – which equals staff wages – and money – which equals the supplies required to service the order – to get the order out the door. Then suddenly, that customer contacts you to say they can’t pay you on time. This is what that picture then looks like. You’ve seen money flow out of your business in wages and have invoices mounting up from your suppliers, but you have no money flowing back into the business as those debts become due.
In this scenario, your accounts may well look rosy. You’ve got a big invoice just waiting to be paid, so on paper you should be able to pay your debts soon. The problem is your suppliers aren’t prepared to wait and are demanding payment now. This is what cashflow is all about.
Could your business continue if that happened?
By monitoring your cashflow and creating forecasts, you can predict your lean months in advance, and ensure you have enough cash in the bank to see things through.
This in turn then enables you to work out when to invest, when to spend, and when to scale things back for a bit.
What can you do to manage your cashflow more effectively?
The great news is that there are many things you can do to protect your business from unexpected cash problems and ensure your cashflow remains positive.
- Create a cashflow statement… and keep it updated
A business’s cashflow statement should be a working document; updated and referred to regularly. You can track your income and expenses using your accounting software if you have it. However, it can be managed via something as simple as Excel if that suits your business.
- Start producing cashflow forecasts
To create one, track the history of your cashflow through your cashflow statement and start predicting how things are going to work in the months ahead. Take note of your regular recurring operational costs, such as rent and payroll, and add other ad hoc expenses you are planning too. See what the picture looks against your regular income and orders on the horizon. You’ll soon start to see when it’s the right time to spend on your next piece of machinery or expand your headcount.
- Plan ahead and take action
Once you have your cashflow forecast, use that to inform your business planning. Anticipate the leaner months and ensure you’re putting cash in the bank to cover those times. Consider boosting that buffer a little with some extra cash to cover any unexpected costs too. Plus pull all this information into a calendar of ‘events’, to ensure you don’t forget when those big expenses are going to hit your bank account so you can keep your cashflow positive.
How can you improve your business once you track your cashflow?
- Invoice your customers promptly
Make sure you invoice your customers as soon as you can. Don’t wait till the end of the month to do a batch. Remember, in their minds, they have a little time to pay once they’ve received your invoice, so that only delays when you’ll receive their cash in the bank.
- Negotiate good payment terms with your customers
Be clear with your customers about your payment terms and ensure these are set out in writing… and aren’t just verbal. Also, consider how quickly your customers can pay you – cash in the bank is worth more than an unpaid invoice. Some businesses incentivise their customers by offering a payment discount if they pay early – the carrot approach often works better than the stick. Though, of course, you should also have penalties for late payment clearly set out in your terms of business too.
- Make it really easy for your customers to pay
If you deal with small and micro businesses, it’s often not that customers don’t want to pay, it’s just that they never get time to sit down and sort their admin. So make it as easy as possible for their money to reach your bank account. Set up an online payment facility that they can access within one or two clicks of the mouse. There are many applications that enable businesses to invoice and collect payments online.
Also, don’t be afraid of enabling payment via payment processors and cards. You may feel the fees are an unnecessary cost, but if it means you get your money within a couple of days rather than a few weeks… it’s worth it. Don’t forget… your suppliers will still want paying whether you’ve received your money or not.
- Be prudent about how much stock you hold
Don’t tie all your cash up in inventory. Of course, you need to ensure you have the stock required to satisfy orders in a timely fashion, but there is software that can help you do this. You can run reports that track where you’re running low and guide you on when you need to place an order to top your stock up. By managing your inventory effectively in this way, you ensure you’re not tying your cash up unnecessarily.
- Pay your suppliers at the right time… and not before
When you receive an invoice, don’t rush to pay it. Simply pay it according to the terms of payment you’ve negotiated with them. You can respect the relationship without hindering your own business.
Remember, your accountant can be your best ally
All this chatter about cash coming in and cash going out obviously makes sense at a strategic level. However, putting some of these suggestions into action isn’t just a matter of snapping your fingers. And, if you’re a busy business owner, turning to trusted help will be the best way to move forward.
Your accountant is the ideal point of contact on this. They can take on the burden of pulling together cashflow projections, pricing analysis, and monthly reporting. They’ll also give you guidance and advice on how you can manage your cashflow to grow your business, for example by taking on more staff or larger premises.
The great thing to remember is that small businesses are agile. Where large corporates take months, if not years, to make adjustments, a canny small enterprise with good support from their accountant can put changes in place in weeks. So if any of the points raised in this article have struck a chord, give your accountant a ring today. You’ll be glad you did.
Roger loves ‘getting his hands dirty’, working with emerging, small-to-medium and family businesses to ensure they receive the best possible accountancy advice.
Using an extensive network of business contacts to leverage the best guidance and practical solutions, he has been called a Business Godparent due to his caring, hands-on approach.
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