Particularly when it comes to a burgeoning business, the matter of cash flow is of crucial importance. In very, very simple terms, cash flow is the movement of cash from the customers to the company, and to suppliers and employees. So how you manage your business cash flow is integral to the success or failure of your business. The ideal, of course, is to delay outgo of cash for as long as possible while you collect outstanding amounts from customers, but how do you bring about this situation?
The most basic way of predicting cash flow is to prepare cash flow projections for a certain time period. This could be a year, or six months, or even a month, but once you have an idea of your cash flow plans, you would be in a position to spot trouble before it breathed down your neck. And we’re not talking crystal balls here. Any entrepreneur ought to have a fair idea of the payment histories and patterns of his or her customers, and a similar idea of the collection patterns of suppliers.
Arnold Sayers, a financial consultant who has written several papers on best business practices, says accurate cash flow projections can work wonders when it comes to managing business cash flow. “You cannot assume that your receivables will continue coming in at the same rate throughout the year, or that you can extend your payables similarly. You also need to factor in expenses like capital improvements, interest on loans and principal payments, and account for a seasonal dip in sales,” he says. “It may seem like stating the obvious, but these are the principal reasons why some businesses, particularly small businesses, flounder and die.”
A good way to start your cash flow projection is by adding cash in hand at the beginning of the period with the cash that you will receive during the time frame you have in mind. Naturally, you will need to speak to your sales or marketing team, your collections team, and the finance or accounts section. Your focus should be on finding out how much cash the business stands to receive from customers in the form of outright payments, interest, or credit payments, for instance, and when.
The logical next step is to form a reasonably accurate estimate of the amount and dates of cash outgo. Literally, you need to know how much cash will be spent and on what – “down to the last penny if possible” says Arnold – and when. Much of the outgo ought to be predictable. “You should know the exact amount that you will be spending on salaries and benefits, for example, or on taxes, or office equipment and supplies. That apart, incidental costs could include unforeseen purchases and actual expenses such as vehicle and equipment maintenance costs,” says Arnold.
Now that you know what you will earn and what you will spend, you can get down to improving your receivables. “Cash flow projection always seemed the least attractive part of my business,” says Uma Raju, a second-generation Indian immigrant who runs a ready-to-eat Indian foods business in Baltimore. “However, it was only when my receivables started to dip alarmingly against my outgo that I realized that instead of leaving it to my accountant, I had better start working out a cash flow projection myself.”
The problem is that rarely will you be paid for a sale the moment you make it. Hence, what you ought to focus on is the speed with which you can bring in your receivables. As Uma explains, “In my business, everything depends on how quickly I can turn raw material into a product and my receivables into cash.” Much the same is true of most businesses, and the quicker your receivables come in, the more favorable your business cash flow situation.
Richard Quentin, who quit his job with a struggling laboratory equipment manufacturer to set up his own business supplying chemistry lab equipment, says his former company was plagued by inefficient cash flow management, a situation that he was determined to avoid. “From the very beginning, I made sure I had tight control over cash flow, and I thought up various ways in which I could speed up the time that receivables took to come in.” Among those ways was to offer significant discounts to customers who settled their bills promptly. “I also cut down on the time lag between a job done and invoice issued, and assigned two people just to follow up on payments. At the risk of driving some customers away, I implemented a system of deposit payments at the time of accepting an order,” says Richard. “And I insisted on cash on delivery with habitually slow-paying customers.”
Similarly, stretch your payables to the limit. “Even if you sales are expanding, watch out carefully for expenses growing faster, and examine costs to find areas to cut them,” advises Arnold. “Don’t make payments before the ultimate deadline, and constantly bargain for more flexible payment terms.”