Posted: Thu 5th Aug 2021
When running an online store, business owners are often too obsessed with generating revenue from multiple sources and they tend to overlook the cash flow needs of their business in the process.
Cash flow has always been the lifeblood of any business, including e-commerce. Even an e-commerce business can sell products and even earn large profits, but that money has to be in hand to benefit the business.
Regular cash flow into a business makes sure it has smooth day-to-day operations by meeting all the expenses, such as buying materials, paying employees’ salaries, buying new equipment, etc.
This post will help you understand the importance of cash flow and share practical tips on how you can improve it.
This post is sponsored by accounting experts Osome, who specialise in helping e-commerce businesses. Enterprise Nation community members can get one month off Osome’s services on bookkeeping and accounting.
Profit vs. cash flow
First, let’s understand cash flow better. Profit and cash flow are two different concepts.
Profit is the financial gain of a business. When your business generates revenues and you deduct costs, expenses and taxes, you can figure out your net profit.
On the other hand, cash flow is the amount of cash that comes in and goes out of business to meet the daily operational requirements.
A business may run profitably and still may not be able to meet its regular expenses due to a lack of cash flow. Similarly, if a business meets all its daily expenses, it may still not be making enough profit.
There has to be a right balance between having a steady cash flow and generating profit. A business needs positive cash flow to meet its daily operational expenses, and sufficient profit to stay and grow in the long run.
Elizabeth is running an online apparel business that makes monthly profits of around £2,000 on average. Her business generates this profit after deducting costs and expenses.
On the other hand, her bills are pending payment and she finds it difficult to pay them off due to a lack of steady cash flow. In such a scenario, she needs to review and reduce her operational costs and expenses to improve her cash flow.
There is no doubt that profit is crucial for a business to stay in the market and grow in the future. However, the current financial health of a business depends on its cash flow. Whether your business is profitable or not, you can find it out in each quarter or after 12 months once you check your financial statements.
To increase profits, you have to create long-term strategies for increasing sales and decreasing expenditures to be profitable in the upcoming quarters in the next financial year.
On the other hand, even if your e-commerce business is profitable, but the cash reserve is tight, it could be a challenge to meet daily operational expenses. In that case, you need to improve the cash flow of your business by making short-term plans, such as improving your inventory, offering clients discounts for early payments, conducting credit checks for clients, using a software application to manage invoices, etc.
Read more about profit vs. cash flow.
Calculating the operating cash flow ratio of your business
When a business generates cash through its operating activities and can repay its current liabilities, it has a positive cash flow ratio. The operating cash flow ratio of the business will indicate its cash flow health.
The operating cash flow ratio is also called liquidity ratio, and its formula is below:
Operating cash flow ratio = Cash flow from operational activities/Current liabilities
Cash flow from operational activities: You can find this out from your company’s statement of cash flows.
Or else, apply the following formula to calculate the cash flow from operational activities:
Cash flow from operational activities = Non-cash expenses + Net income + Fluctuations in working capital
Current liabilities: These are the financial liabilities that are payable in a financial year, including short-term debts, accounts payable and accrued liabilities.
Useful tips to manage cash flow and grow your business
The cash flow management of a business sounds like a lot of work, but you can do it easily by following a few simple steps. After following a process consistently, you will understand the cash flow process of your business and can manage your spending.
Here we have listed three simple tips that can help you manage the cash flow of your business effectively:
1. Manage your bookkeeping properly
Managing your bookkeeping properly will help you have a steady cash flow. Keep an eye on your receivables, maintain expense receipts, track your cash expenses and have your invoices in order.
You can hire an accounting professional to manage your bookkeeping, accounting, and taxes, which will help make sure there are no issues.
The bookkeeping and accounting professionals at Osome can help you maintain and reconcile your books perfectly so that you do not have to waste valuable time tracing old invoices.
2. Monitor your cash flow
Closely monitoring the cash flow of your business will help you find out your cash in hand, business expenses and your receivables.
Generating a daily cash flow report can give you insight into your cash reserves to bear the daily expenses without taking loans. On top of it, this report can get you important information on the future possibilities of profit, loss and expansion.
Monitoring your account receivables and persuading clients to pay earlier by giving discounts can improve the cash flow situation. Using a quality tool or application to manage invoices can track both receivables and payables, along with convincing clients to pay on time can ensure sufficient cash reserve.
3. Get an estimate for the next month’s cash flow
Estimating the cash flow for next month or a specific period will allow you to prepare better in case it is likely to run low. Forecasting will help you to work on a contingency plan to stay afloat during negative cash flow situations.
Although forecasting does not guarantee sufficient cash flow for your business, it would still help you figure out the expenses you need to bear.
By better planning and budgeting every week, you can get a rough figure that you may have in your bank in a month.
How a steady cash flow will benefit your business
We cannot stress enough the importance of a steady cash flow for a business. Having sufficient cash flow maintains liquidity in a business and contributes to its growth.
Maintaining adequate cash flow will get your business the following benefits:
1. Improve your business relationships
By maintaining a consistent cash flow, your business can meet the daily expenses on time. It will improve your business relationships with suppliers and various third parties.
In case of a cash-strapped situation in the future, your suppliers and working partners may support you and extend credit terms. Besides, if you need to take a loan, your on-time repayments will reflect positively with a good credit rating.
2. Help you overcome unforeseen events
Unforeseen events, such as economic downturns, natural disasters, or pandemics can put your business under a lot of financial pressure. However, a steady cash flow can help you overcome these situations.
Having a good cash flow as well as a solid cash reserve can help you continue with your business despite the challenges mentioned above. It will also allow you to focus on consolidating your business.
3. Grow your business
If you have a plan to grow your business, a steady cash flow can get you enough finance without depending on external funding.
In case you need a bank loan, you will be in a better position to negotiate the repayment terms and interest rates. Also, it would be easier to get a loan for making timely debt payments as banks look for positive credit history.
Manage your paperwork to keep your business finances in a great shape
The bottom line is, the cash flow of your business is critical for its present as well as future financial situation. If managing your bookkeeping and accounting to track your cash flow seems overwhelming, we are always ready to help.
At Osome, we are experts in online accounting for e-commerce businesses. We will gather daily data from various online platforms you are selling on and convert it into accounting books. We will also help you with tax filings and maintaining profitability reports so that you don’t spend too much time on them.
Check our Accounting Services for E-Commerce for when you need a trusted partner to help you with your business. Enterprise Nation community members can get one month off Osome’s services on bookkeeping and accounting too.