Four strategies to improve cash flow
Cash is often referred to as the lifeblood of a business because it is the primary indicator of business health. Without cash, the business will die. Here are four strategies for improving the cash flow in your business.
It is possible for a business to be profitable and at the same time have a negative cash flow position. This can be caused by having to cover large debts or from a large fixed asset purchase. As a general rule, a business should try to finance its operations out of working capital. Costly equipment purchases should be matched by long-term financing. That way the cash outlays are timed to coincide with the expected cash inflows to be derived from the investment in the fixed asset. For example, if a business expects the new equipment to be used for 10 years, it should be financed with a 10-year bank loan. This will leave sufficient working capital to cover the short-term liabilities of the business, assuming that the business is profitable.
Manage accounts receivable
Managing receivables means keeping an eye on what is owed to you. Define a credit policy that clearly states your payment terms and consider offering discounts for prompt payment. But discounts help your cash flow at the expense of your earnings. If you can reinvest the accelerated cash flow rapidly, the earnings you lose from today's discounts may ultimately increase your profits. A strategy for custom work and service businesses is to structure your terms so that you get a partial payment up front before the work begins, and to turn over the completed work only when paid in full.
Manage your suppliers
Defer your payments to your suppliers and service providers until near the due date to keep cash in your pocket longer. If there is an advantage to paying early, such as a worthwhile discount, then pay early. It is better to pay less rather than pay later. It is also important to maintain a good relationship with your suppliers. If you were to have a short-term cash flow problem the best way to deal with your suppliers is to talk to them and negotiate payment terms, rather than annoying them by simply not paying.
Manage trading volume
A business can run into major cash flow problems from overtrading. Overtrading has caused many businesses to fail. The most common scenario being when businesses are so set on going after the sale that they pay no attention to cash collection. They offer heavy discounts and extended credit, so sales increase rapidly but little cash comes through the door. While the business has profit, ironically they don't have enough cash to continue operating.
These four strategies can improve your business' cash flow situation. However, these efforts will be wasted unless you compare your results with your cash flow forecast. Use key performance indicators (KPI) to measure how your business is performing. Monthly monitoring of the KPIs will help you identify emerging problems and opportunities and ensure you are getting the most out of your plan. The KPIs can also be used to check your business' performance against industry data to see how your business compares to your peers.
Failing to fulfill or exceeding the plan's expectations will indicate that your plan should be modified. If the actual results are not being monitored regularly, the business cannot capitalize on the opportunities that the improved cash flow might offer. There is always the opportunity to do better. It's never too late to get started on improving your cash flow. A business accountant will offer a cash flow projection and choose KPIs suited to your business as part of their regular service offerings.
• Susan A. Oldenburg is a CPA and president of Oldenburg Accountants & Advisors in Gurnee. Sue@oaa-cpa.com