How to Improve Your Business Cash Flow Even If You Don’t Have a Masters in Finance
Cash flow is the life blood of your business, it is a critical aspect to maintaining a successful business. It is important to avoid confusing cash flow with profitability. While both are necessary, they will each affect your business differently. What I mean is that the ability to operate profitably is important but not having enough cash on hand to pay for bills as they come due can lead to insolvency. How is this possible?
Here is a simple scenario, you can reflect high profits in your financial statements by sending out invoices to your customers, but if the money isn’t collected promptly to cover operating expenses, you will find yourself running out of working capital.
Know your numbers
Cash flow and profit together are what keeps a business thriving. You can’t be focused on leading your business and forget to manage by the numbers. At the end of the day, it is the numbers that make or break your business.
Finding the optimum level of profitability depends on maximizing your gross profit on goods to services sold. Innovative sales and marketing strategies can help you increase sales volume, revenue and total profits. On the other end of the spectrum, businesses can increase their profit margins by controlling business expenditure and running leaner and more streamlined operations.
The key is understanding that good bookkeeping is for your benefit first, not just the bankers or the tax person. You need to know what is happening in your business. This doesn’t mean that must be everything to your business. There are various resources that can help you better understand them, you just have to make it a priority.
It is imperative to be savvy when handling your business finances and to clearly understand the inflow and outflow of money coming and going from your business; this is what will keep your business alive. I can’t tell you how many business owners don’t even look at their financials and then at year end they panic when you discuss taxes.
Tips on having good cash flow
· Study your financial statements and see where your money is going. Compare months and years and look for seasonal changes. Try and make reasonably intelligent projections of future sales and expenses.
· Maximize your profitability. Eliminate unnecessary expenses. Make do with existing tools and equipment without shelling out for the latest gadgets and gizmos every time a new one comes out. Seek continuous improvement and streamline your business processes. Develop effective sales and marketing strategies to increase your customer base, sales revenue and total profits.
· Be pro-active in your accounts receivable practices. Bill frequently for products and services and be diligent about collecting from your customers for whom you’ve extended credit. Be proactive in debt collection and overcoming payment disputes.
· Take advantage of credit facilities for large purchases. Purchasing on credit can help free up your cash reserves.
· Maintain the correct inventory levels. Too much inventory locks up your cash reserves. Focus on inventory management to maintain proper balance to meet demand without incurring excessive idle inventory.
· Develop a cash flow forecast. This can provide the organization with a plan for the allocation of company resources. In addition to this, a budget can also prove to be helpful when negotiating with the bank or other lending institutions.
Two areas that affect your cash flow that are not in your profit and loss statement
1. Loan Proceeds and Payments. When you borrow money from yourself or anyone else, those loan proceeds simply increase your liability on your Balance Sheet. It is not income so therefore it doesn’t show on your Profit & Loss Statement. When you go to pay back your loan, the only part of the payment that is an expense is the interest portion. The loan principle is not an expense; it is a reduction of your loan liability.
2. Owner Investments and Draws. When you contribute money to the business as an investment, it is not income; it is an increase in Equity on your Balance Sheet. When you take monies out for personal use, it is not an expense (unless you run it through payroll expense and withhold taxes), it is a reduction of your equity (aka draw).
It is essential to take a pro-active approach in managing business cash flow. Ensure that you do not misjudge the level of cash reserves needed to meet business requirements. Cash flow management becomes increasingly essential during periods of economic recession. Most businesses experience challenges in maintaining their cash flow as the economy moves into a recovery period, rather than during the recession itself. As the economy begins to recover, sales begin to increase. As a result, the organization needs more cash reserves to invest in producing enough products to keep up with the increase in demand.