10 Cash Flow Management Tips for Small Businesses
The adage “cash is king” should stay top of mind for all small business owners, who often confuse cash flow with profit. It’s not unusual for small businesses that are profitable to go under, simply because they were spending cash faster than they were making it.
The bottom line of your profit and loss statement (P&L) doesn’t always tell the full story. Profit represents your revenues minus your expenses, but not all profit represents cash in hand because you might not have been paid yet. Likewise, if you ordered supplies but haven’t received an invoice for them, that’s an expense, even if it’s yet to be reflected on your bank statement.
Therefore, carefully monitoring your cash flow (i.e. the money that’s flowing in and out of your business) is essential for success. Here are 10 tips for cash flow management.
Establish Your Cash Flow Targets
How much cash do you need to have in order to make your goods or deliver your services, pay all of your suppliers, employees, etc. and still make money? Determine that amount and budget accordingly. A positive cash flow (which means that cash is flowing in faster than it’s going out) is required to generate profits. When you’re setting targets, also consider variables. What would happen if a major client fails to pay a bill on time? Does your business experience seasonal dips and peaks? Determine how much cash you need on hand to weather those bumps.
Set Up a Tracking System
Once you’ve established your cash flow targets, track it regularly. If you’re a new business, project your cash flow every month for the first year, and then quarterly. If you’re growing fast or financially unstable, consider preparing cash flow projections monthly or even weekly. Take advantage of the tools and technology available; there are apps, computer programs, spreadsheet templates, and free cash flow tracking tools offered by banks such as RBC. A good tracking system can warn you of upcoming trouble before it’s too late.
Establish Clear Payment Terms
Knowing when you’re getting paid is essential to managing your cash flow. Make your payment terms clear to your customers, and establish an action plan when a payment is overdue. For longer projects, you may want to establish a staged payment system (e.g. – one payment upfront, another when a milestone has passed, and the remainder at completion). This allows you to have a steady stream of cash coming in even if the project spans months.
Make a habit of invoicing your customers as soon as your work is completed instead of waiting until the end of the month. Ensure that your invoice is correct, includes your bank account number and is easy to read, as confusing or inaccurate invoices may cause delays with your payment.
Offer Multiple Ways for Customers to Pay You
The more convenient you make it for your customer to pay you, the faster they will. Why wait for a cheque to be processed by a bank when you can receive immediate payment via PayPal, credit cards or preauthorized automatic payments? Having money come in quicker may justify the fees you pay to use these types of services.
Time Your Expense Payments
While you want your customers to pay you as quickly as possible, the opposite is true when it comes to paying your own suppliers. While you never want to be late with an expense payment, you should delay outlays of cash as long as possible. Take full advantage of the payment terms (e.g. if a payment is due at the end of the month, consider waiting until then to pay it). Try to match your outgoing expenses to the time your customers will pay you, ensuring that cash is in before payments go out.
Carefully Consider Discounts and Sales
While promotions are a great way to attract new business, determine the cash flow impact before discounting your products or services. Offering coupons or GroupOns may temporarily increase sales and attention, but be prepared for the negative impact that selling your services at a loss may have on that month’s cash flow.
Keep an Eye on Inventory Levels
Having too much inventory ties up cash that you can’t use. Also, holding onto large or expensive inventory exposes you to shrinkage or theft. Avoid spending a lot of money on quantities of stock that you can’t move quickly, and set prices higher for inventory that moves slower. Knowing what you paid for inventory and the likelihood that you can sell it quickly will determine what you should ideally charge.
Encourage Repeat Business
While small businesses should always be trying to attract new clients for growth, repeat business is the quickest way to stability. Foster relationships with clients who have a history of paying their bills on time. Loyalty programs, discounts and giveaways are just some ways to encourage repeat business. You may even want to consider rewarding clients who pay their invoices early.
Work With Your Bank
Banks can offer services like overdraft protection or credit, which may be crucial to maintaining a positive cash flow. Work with your bank or financial service to determine how to make the most of your cash reserves by putting them in an accessible, interest-earning account. Build a good relationship with your bank now, as you might need to rely on them for help in the future if you experience cash flow issues.
While tracking your cash flow may not be a perfect science (sales may fluctuate, customers may be late with payments, unforeseen expenses may be incurred, etc.), it offers a reasonable estimate about how your business is performing and allows you to project future trends. Having a better understanding of the cash coming into your business vs. the cash going out allows you to make informed decisions about growth and expansion, and avoid unpleasant surprises.