It’s plain and simple: a business needs cash to grow. And this means that every small business needs an effective cash management strategy.
The more cash you have the more control you have. Cash keeps you mobile, adaptable and less vulnerable. Without cash you simply cannot survive in business and you certainly cannot grow.
But how do you generate MORE cash? What should you be doing to get the cash flowing in your business to accelerate your growth?
The three essential practices of effective cash management for small business are:
- Cash flow forecasting;
- Understanding your sales cycle; and
- Managing working capital.
Here’s what you need to know about each of these…
The 3 Essential Cash Management Practices for Small Business
1. Cash flow forecasting
This really is the ‘secret sauce’ of good cash flow management.
It helps you to monitor your results consistently and drill down into any problem areas before they get too big to manage. A cash flow forecast will help you in these three key ways:
- Helps you delay certain cash outflows to ensure that there is sufficient cash to fund business operations;
- Acts as an objective, proactive decision tool, representing the facts of the current and future business positions;
- Provides insights into income and expense cycles, inventory management issues, also doubling as a tax planning tool that allows you to plan and predict cash outlays for taxes.
A cash flow forecast is your real-time communication tool between you and your advisor. Cash flow monitoring shifts the focus away from profit (a past and often fictitious metric of business performance) and can be used as a decision tool to drive better business planning.
It also helps you understand the opportunities and limitations of your current operation and is the starting point to become engaged and attuned to what your business potential is.
Cash flow forecasting and planning just makes good sense because it takes the surprise elements away and puts you in control.
We are not aiming for perfection here; all businesses must work with variances, but it pays to forecast. Forecasts can actually make or break a business.
2. Understanding your sales cycle
Your sales cycle is the time it takes for a customer to find your business, order your products or services and actually pay you for what you deliver.
As a simple exercise, we recommend you create a flow diagram and timeline of your customer journey and sales cycle.
When you have done this, you may be shocked to learn how long your sales cycle is. For some of our customers, it’s as high as 180 days. OUCH! That’s 180 days before payday.
If you were employed, would you hang around 180 days for your boss to pay you? So WHY put up with this when running your own business?
Understanding your sales cycle is critical if you want to speed up cash flow in your business. With sales, speed is key and the quicker you can get cash into your business the less reliant you will be on loans and other funding sources down the track.
Tip. Review your sales cycle across your business and look for points along the way where you can speed up the process to bring cash in the door FASTER.
3. Managing working capital
“What the hell is working capital?” I hear you ask. It’s all about managing your cash conversion cycle – or, put simply, the average days for cash to flow both IN and OUT of your bank account.
The diagram below explains it more clearly.
If you can win the game of managing working capital, your business stands a better chance of surviving and growing.
By shortening the cash conversion cycle, you will be less reliant on external business funding because more cash is available to fund your operations.
Managing working capital effectively allows you to:
- Pay down debt;
- Invest back in the business; and
- Draw out funds for yourself or investors.
No one wants to be a business owner struggling to keep on top of cash conversion. It’s frustrating, especially when you have accounts receivable days starting to blow out, inventory taking too long to move off the shelf, and your suppliers are chasing you for money. Don’t get caught in a cash flow nightmare.
Tips to improve working capital:
- Review your terms of trade and accounts receivable policy, regularly review your list and always follow up late payments;
- Implement proper stock control management and reorder points so that you know when and how much stock to order; and
- Pay suppliers on time and ask for discounts.
Inadequate cash flow: a symptom not a cause
These cashflow management practices are essential for the survival and growth of any small business.
Setting cashflow targets and regularly monitoring your actual cashflow against your forecast will enable you to predict large cash outflows and respond to changes in your business.
Remember that inadequate cashflow is a symptom of management problems in a business, NOT the cause.
Why use a dedicated cash flow management service?
Helping our clients look ahead with confidence and putting in place basic cashflow maximisation strategies is core to our purpose as accountants.
If you require a cashflow forecast because your bank manager has requested one, we can help you create it.
However, every business owner needs an understanding of cash and liquidity for better decision making.
Beyond preparing one-off documents, we can help you recognise the difference between profit and cash and improve your cash conversion cycle to manage and grow your business more effectively.
To your success!