Why Cash Flow Is Important
Without fail, one of the most common issues I’ve run into is business owners come to me confused about why they are seeing a big profit in their financial statements but can not understand why there is no cash in the business.
What’s the reason and why is cash flow important?
A large number of industries operate on risky credit terms, particularly when they do business with large companies due to a lack of leverage. Often times, it’s extremely easy and quite common for large companies to dictate terms of pay as to when they want and how they want. These larger companies often constitute a very large portion of their revenue. As a result, small business owners become too accommodating and consequently eventuate into delayed payments that take up the majority of the creditors of small businesses.
At the end of the financial year, we see large profits as well as large accounts receivables but barely any cash.
This is where your business suffers.
Build-up of Debt
Over time, your expenses for payments such as wages, purchases and bills continue to roll in whilst cash reserves deplete. Not to mention, since you have a huge profit sitting on your financial statements, your accountant will often advise you that there is a large amount of tax to pay to the tax office.
You sit down and wonder to yourself – something isn’t right. How could I be making money when there is no money in the bank account.
There is just one explanation – cash flow.
Cash Flow is King!
If you don’t look after your cash flow your business can fail at any time. This is why cash flow is important!
Cashflow management is an ongoing and difficult process to manage. Business owners, accountants and financial controllers must constantly look at ratios and reports of the business.
You might also like: 6 Important Reasons Why You Need Financial Statements
Tips to Manage Cash Flow Better
- Look into the cycle and timing when receiving money – how long does it take until you to get paid after the sale? If you can, keep it under 2 – 4 weeks, send the invoice out as quick as possible and follow it up regularly. Discount invoices for early payments
- How long does it take for your product or service to reach its customers? This is always easily overlooked. For example, if you paid for stock and it’s stuck in transit for a month, you’re losing one month of time to turn the stock into cash sales
- Don’t always pay bills early! We aren’t telling you to pay late. Just manage your bills and try to stretch these payments as long as you can. This keeps a cash reserve to be used in case you run into a tight situation
- Take up a bank loan or an overdraft for the business. Too many businesses are too afraid to take up a loan and thus they hurt their businesses without even realising it. The business needs enough working capital for it to run.
- Budget, budget, budget – plan your business expenditures and keep track of how much money you have. Work out how much money your business needs to run (i.e. working capital) each month and make sure you don’t spend too much. Keep track of an established threshold so you know when you are dipping below your minimal working capital
- Increase your prices to account for inflation, supplier cost changes, foreign exchange rate fluctuations and other variables. Do not be afraid to change your prices. As a business, you need to do what’s right for your business. You need to make reasonable profits for the business
- One final tip is to leave some money to pay for your taxes. Drill it in your head that taxes need to be paid. Do not spend all the profits and expect to pay no tax
As a business owner myself, I understand the lack of time to stay on top of your cash flow. Unfortunately neglecting this is non-negotiable which tells you why cash flow is important. Start with one of these strategies first and slowly layer these on. Your accountants and business advisers can help you implement some of these tactics to avoid finding yourself in a situation where you can’t meet your obligations and liabilities as a business.
If you found any of these strategies useful, feel free to share this with someone you know who might benefit from this. I’d like to know which strategy from this post you’re going to try first? Or perhaps there’s a strategy that you are using that is currently not listed here. The ATO has a helpful resource section on cash flow that you can delve deeper into.
Either way, let me know by leaving a comment below or catch me on any of our social channels.