Cash is king—it’s a common saying in the business world. But surprisingly few entrepreneurs take steps to manage their cash flow so they don’t wind up with an empty bank account and nothing to pay the bills.
“One of the main causes of business failure is poor cash flow management,” says Susan Rohac, Senior Vice President, Financing and Consulting, at the Business Development Bank of Canada (BDC). The good news: cash flow management is easy to improve with a few simple steps. “Getting control over your cash flow helps you prepare for slow periods, plan your financing and have peace of mind,” Rohac says.
Follow these five steps to get a better handle on your cash flow.
1. Profitability check
First, make sure your business is earning a reasonable profit. Even the greatest cash flow management won’t help if your fundamentals are out of whack.
Build a sustainable business with smart cash flow management principles.
Analyze each product and service separately to see whether it’s pulling its weight. Make sure your products are appropriately priced, and work to eliminate inefficiencies. Instead of just chasing sales, chase profitable sales.
In 2007, Mike Whittaker’s company Bonté Foods learned the consequences of poor cash flow the hard way after facing large cost overruns on two major projects.
The company had to act quickly to restore its cash position. It analyzed its profitability and realized it had to raise prices to better reflect costs. Bonté also unloaded lower-margin product lines and launched an efficiency drive while tightening cash flow management.
The changes had a huge impact. Sales in Bonté’s meat division are up 36% since 2009, while gross profit is up almost 6%. “We learned to watch our cash very carefully,” Whittaker says. “You need to always be ahead of the curve on cash flow management.”
2. Do a cash flow projection
Next, prepare a cash flow projection for the coming year. This is your early warning system for cash flow hiccups. Use an Excel spreadsheet or accounting software to plug in expected monthly cash inflows and outflows, including anticipated big-ticket purchases.
Use the projection to anticipate slow periods and plan in advance what to do about them. “Through the year, check your actual cash position regularly—once a week or month—against your projection to see how you’re doing and deal promptly with any divergences,” advises Rohac.
3. Finance big buys instead of draining cash
One of the most common cash flow mistakes is using cash to buy a major long-term asset, instead of getting financing. Even if you feel flush right now, you may suddenly wind up short of cash if you experience a sudden revenue shortfall or rapid growth.
Use your cash flow projection to plan your financing needs ahead of time, not in the midst of a crisis, when bankers may be wary to lend. Rohac also recommends matching the lifespan of a purchase with financing of similar duration.
4. Speed up cash inflows
Getting money into your business more quickly can save you carrying costs on your line of credit. Some tips: send out invoices more quickly, ask customers to pay electronically and charge interest to slow-payers.
5. Raise cash quickly in a crunch
Facing an unexpected cash flow crunch? You can raise cash quickly using various techniques: approach your bank for help; check your inventory and assets to see what you can sell off, even at a discount; ask suppliers or your landlord for extra time to pay bills; or offer your customers a big discount to earn some quick sales.
Many businesses ignore cash flow management: survey
BDC’s Susan Rohac points out that managing finances is one of the main challenges for entrepreneurs, coming in second after marketing and sales. The findings of a BDC survey this year confirm her observation:
- More than four out of five entrepreneurs (82%) say they’re the ones managing cash flow and financing in the company.
- However, many of the entrepreneurs don’t take basic steps to control their finances. Almost half say they don’t make cash flow projections and check them against actual results—a basic procedure of financial management.