Posted: Thu 30th Jul 2020
Growth often puts pressure on resources and freeing up cash creates opportunities to invest. This means managing your company's cash flow is an important part of achieving your goals.
"Growth needs good financial management," said On The Spot Tax founder Paula Tomlinson. She's hosting our free e-learning module on managing cash flow (sign up here or use your dashboard if you're already an Enterprise Nation member).
This blog post covers some of the key things to keep in mind with cash flow management and gives you a taste of what the course is like.
1. Maintain your gross profit margin
Gross profit is the amount of money a company makes after the costs of the product it sells. It's calculated by subtracting the cost of goods sold (COGS) from revenue (sales). You're probably used to seeing it on your profit and loss and cash flow statements.
Your gross profit margin needs to be high enough, so that you can pay your operating costs (things like rent and wages) and turn a profit.
It's helpful to decide what the lowest and highest acceptable gross profit margins are. If your gross margin is too low, the work or sale won't cover your overheads and you're wasting your time. Charge too much and you risk being uncompetitive or giving customers a sense that they aren't getting value for money.
It's possible to find gross margin benchmarks for industries and products. Ask your peers about their experiences and think about what the market can bear. You may need to rethink what suppliers you use or the way you deliver a service if you can't make a healthy gross margin.
Gross margins will change as you grow, so look for benchmarks from companies that are a similar size.
Monitoring the gross margin of your business on a monthly basis provides an opportunity to learn and make adjustments. It's important to look at the products or services you sell on a regular basis too.
Paula cautioned that it's easy for good news in one place to offset something that isn't working if you don't look at the details. Being aware of high margin products helps identify where you should invest resources.
2. Plan for tax
VAT is normally paid monthly and corporation tax annually. You have to plan and save for these payments. Don't get caught out facing a bill you aren't prepared for or overinvesting because you think the business has more cash than it does.
Get in the habit of saving corporation tax and VAT every month. Use another bank account and add a line to your cash flow forecast to record the transactions. If you make a loss and your tax liability falls, you just adjust the amount you have saved accordingly.
3. Foreign currency exposure
Exporters have to hold cash in different currencies. Fluctuations in value create risk, particularly if you're buying stock or supplies and selling in different countries.
Creating foreign currency accounts can help to reduce this risk. Speak to your accountant or a specialist to figure out the best way to manage the process.
4. Manage your debtors
You're unable to use the cash you're owed to pay expenses or invest in growth. This means it's crucial to keep tabs on your debtor days (how quickly you get paid).
Here are a few tips:
Schedule payment reminders. Online accounting software will allow you to do this automatically.
Make payment terms clear when discussing a potential sale, at point of purchase and on your invoice.
Set up direct debits.
Change the way customers pay for products, eg. charge a share of work upfront or ask someone to pay in advance for a subscription service.
5. Get into a forecasting routine
Paula stresses the importance of forecasting.
"It's surprising how much you learn by spending 20 minutes looking at what your figures are versus what you thought they would be.
"We all know forecasts are wrong. When you go back and look at your actuals it's important not to get too involved, but just to jot down how those figures are going and where things went well or didn't go well. That will get your accounting more accurate," she said.
The frequency you work on your finances will depend on the size and complexity of your business. If you're turning over £100,000 to £1m, it's common to do the following on a monthly basis:
Update cash flow and profit and loss reports. Compare your budgets to actuals.
Complete routine process like invoicing, paying suppliers and payroll.
Check key performance indicators (KPIs).
Paula recommends including debtor days (how long your average customer takes to pay you) and profit margins in your KPIs.
As your business grows, you'll outsource more financial tasks. Bookkeeping, VAT returns and annual statements are a good place to start. Find ways to measure and monitor those tasks and make sure processes are documented.
6. Move quickly
The quicker you identify an opportunity or issue, the better. From a corporation tax bill to a large order you need to buy stock for, it's crucial to have time to react.
Forecasting will help you with cash flow pinch points - and they happen more often when you're growing. Look for opportunities to reduce risk too, such as outsourcing rather than hiring, which will allow you to react quickly.
This article aimed to provide ideas on how to manage cash flow better, so that you can free up the capital your company needs to survive and prosper.
If you want to learn more, Enterprise Nation's offering a free four-part online learning module on managing cash flow as part of the Amazon Small Business Accelerator.