In 1992 I started my third business after failing in two others. I made a sign and hung it up in my office. It read, “It's cash flow, stupid.” My sign referenced a far more famous sign—"It's the economy, stupid"—that was reportedly hung by a former president's campaign manager that same year. (It was a reminder that the economy was the issue they were running on.) This sign became my daily reminder and mantra, and having a cash flow plan was critical to my success.
Many businesses fail because they run out of cash leaked through losses or poor management processes. Some small-business owners struggle with the concept that cash is not the same thing as revenue. Sales happen when a company sells a product. It only actually gets cash when it collects payments from the customer. Cash can be the gasoline that makes a business engine work and keeps your company moving forward. If you don't already have one for your business, the following tips may help you create a cash flow plan.
1. Open the monthly bank statements.
Bank statements can sometimes sit in your in box and never get examined. Maybe you think they're only for the bookkeeper to balance the checkbook. However, you can learn whether or not your company is cash flow positive or negative by comparing the beginning and end-of-month balances.
If the end-of-the-month cash balance is higher, the company may be cash flow positive. If the end-of-month balance is lower than at the beginning of the month, the company may be cash flow negative.
2. Learn to read the cash flow statements.
Sometimes it doesn't pay to outsource the math. You may want to learn what makes up a monthly cash flow statement, which can easily be printed from any accounting application.
For your cash flow plan, remember that cash flow is typically monthly accrual profit, plus the change in accounts payable, the change in accounts receivable and the change in inventory. Adding all of these numbers up may give you the net cash flow change during the month. You may want to ask the company accountant to explain these difficult concepts in detail.
3. Get a projected cash flow statement.
While this can be tricky to create, projected cash flow statements can be an important tool to know the cash flow position of your company at some point in the future.
To create this model, I would suggest using your projected sales and expenses. You may also want to project how much cash will be collected from customers and how much of your bills will be paid to vendors. And estimating if there will be a change in the size of inventory to support the projected sales volume can be helpful as well. This may be an excellent place to get a professional involved to create this model if your company's accounting application doesn't generate it automatically based on the budget.
4. Collect account receivables faster.
Having your customers pay you as soon as possible may help with cash flow management. If a company can get paid in advance or with a credit card, they may be able to boost cash flow. The sooner a customer pays, the higher the cash flow.
You may want to consider not having your Days Sales Outstanding (DSO) be more than 133 percent of the invoice terms. Remember that a small business is not a bank. You may not want to extend credit to a customer that has not proven they can pay in a timely fashion.
5. Get longer terms from vendors.
Getting extended credit terms from vendors may help boost cash since the company is paying their bills later and retaining money. One way to achieve this is by paying within the agreed period of time. After six to twelve months of remitting invoices on time, you may want to ask for longer terms.
6. Turn inventory more often.
Buying inventory that sits for months on the shelf waiting for customer orders may take a lot of cash out of your business. By...
- tracking inventory carefully,
- knowing what sells quickly and what sits for a long time
- and knowing how long customers will wait for a product and still be satisfied, you may be able to determine the setting of reorder points (when a product is reordered to add to inventory) and the reorder quantities (how much is reordered each time).
Subtle changes in each of these metrics may help save or consume a lot of cash.
7. It takes more cash to grow.
Having a cash flow plan and following the steps that are listed above may help improve your company's cash flow position. But remember, if the business is growing 25 percent a year, it may take that much more cash to support the growth of the business. You may be able to get this cash through retained profits, better inventory management, shorter DSO or longer vendor terms from vendors. Be careful about taking long-term bank loans to support the growth of the business if the company has not yet optimized for cash flow from its current sales.
What does your cash flow plan look like for your business?
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