Five rules for managing small business cash flow
Posted: Fri 19th Aug 2022
Cash flow management, or the lack of it, is one of the reasons many businesses fail.
You know that "you can delegate responsibilities but not accountability" - what I mean is even if you have a great accountant doing your taxes, you need to be in control of your numbers.
For example, do you know:
why measuring your business growth only with revenue growth is not a good idea?
what your gross profit is?
what the difference is between gross profit and net profit?
the difference between the cost of goods sold (COGS) and overheads?
your cash flow forecast?
Cash flow management is vital for a growing business. Here are five rules to help you keep cash flow under control.
Five rules for managing your cash flow
Invoicing is only the start. To maintain a healthy cash flow, you need more than just strong revenue. You need to be able to collect that revenue too. Here are five rules for managing your cash flow and getting your invoices paid faster.
1. Keep your books accurate and up to date
Your cash flow is only as good as your accounting and reporting. Don't let this get out of hand. Make sure your accounting information is updated regularly. Then you can see the financial state of your business at a glance.
2. Don't be too lenient with your customers
Be direct and fair without being a pushover. A clever but polite invoicing strategy will usually get you a long way. But don’t be afraid to take more formal action if you need to.
Keep a close watch on your accounts receivable turnover at all times. If it’s trending up, it might be time to step up your efforts at chasing payment. As receivables age, their quality goes down, so you should act sooner rather than later.
3. Keep your accounting simple
If you’re not confident with numbers, hire a professional accountant. Use quality accounting software, so you always know your cash position. It will also help you forecast your cash flow for planning purposes.
For example, maybe you’re expecting a big order next month. How will you know if you'll have the working capital needed to expand payroll? Or be able to buy the necessary inventory?
Many small business owners get caught out when a large opportunity turns up. They are unable to take advantage of it due to a lack of cash. Don’t let that happen to your business.
What’s more, a reliable accounting system will help you track and report on key business metrics. These include accounts receivable ageing, operating margins and inventory turnover. Having a good handle on these business metrics will help you manage your cash like a pro – and take advantage of new opportunities.
4. Keep your business and your personal finances separate
This is essential to understand your business cash flow and forecast how it might change. Mixing your business and personal finances can leave you uncertain about business performance.
So keep them separate. That way you'll know how much cash your company is generating. Then you’ll be in a good position to properly pay yourself – and use excess cash to strengthen and grow your business.
5. Build a cash reserve
Access to cash will make or break your business. The ultimate step to managing cash flow like a pro is to build a cash reserve. A cash reserve provides the cushion you need to manage unexpected events.
It can insulate you from the economic cycle and the whims of banks and other lenders. It will also let you take advantage of opportunities when they present themselves. It also gives you the confidence and finances you need to grow your business.
Building a cash reserve puts you in a position of strength. It might mean paying yourself a little less in the short term, but in the long term, it will put your business on the path to success. That ultimately means more money in your pocket.
Make cash flow work for you
'Cash is king' might be a trite expression, but it really is vital for small businesses. Following the five rules above will help ensure that cash serves you – rather than the other way around.
Cash flow forecast: Reducing the risks when business costs increase