Cash flow management can be one of the most complex challenges facing a business owner.
That’s because it takes place on several levels at once—everything from accounts receivables and payables to inventory and expense control, to even bigger questions about your business model.
“Good cash flow management starts with making financial projections and then closely monitoring your actual financial results,” says Sophie Gauthier, Director, Business Restructuring Unit at the Business Development Bank of Canada (BDC).
Consider different scenarios (optimistic, most likely and pessimistic) so you can plan for the impact of each.
Understand the nature of the financing you seek
Your projections should also indicate your financing requirements for the coming year. With those in hand, you can approach your bankers to arrange credit lines or term loans.
It’s important to avoid the common mistake of trying to pay for longer‑term assets with your everyday cash. This can lead to a cash shortage if revenues dip or your business keeps growing. You’re better off taking a term loan.
“As the year progresses, compare your projections to actual results on a monthly basis in order to understand the cause of variances and react properly,” Gauthier says. “For example, if sales are lower than expected, you could cut expenses, delay discretionary outlays or ask your suppliers for some breathing room.”
Investigating the cause of variances will help you zero in on where things are going off the rails and how to get back on track.
Profit margins often the culprit
Poor profit margins can quickly lead to cash flow problems. Entrepreneurs often fail to account for all overhead costs or simply charge too little for their products or services to produce an acceptable level of profit.
That’s what happened at Bonté Foods, one of Atlantic Canada’s largest deli‑meat manufacturers. The company had to put in a huge effort to overhaul its cash flow management and restructure operations after running into trouble in 2007.
“We learned to watch our cash very carefully,” says Michael Whittaker, President of both Bonté Foods and Trucorp. “We manage our receivables, payables and inventory much more tightly.”
Eyes on the prize
The company carefully studied why its cash flow problems had started in the first place. That review led to a restructuring of its operations.
The company improved its profit margins by unloading lower‑margin divisions. “We narrowed our vision to a laser‑like focus on meats, our core competency,” Whittaker says.
Realizing its pricing didn’t reflect its higher costs after an expansion and acquisition, Bonté also approached customers to ask for substantially higher prices. Most accepted.
The firm also hired an outside consultant to study its operations and help it get leaner. This improved both production efficiency and management of accounts receivable and payable. It also led to adoption of just-in-time inventory management.
The future is bright
“The changes spurred a 36% jump in sales and saw the company’s gross profit margin go up by 6%,” Whittaker says. “This left Bonté ready to handle unexpected difficulties.”.
“Now we’re a healthy company with a bright future.”
5 steps to better cash flow management
- Collect receivables as quickly as possible, even if you have to offer customers a small discount.
- Keep a close eye on your cash flow through the month and compare month‑end and quarterly totals to projections.
- Use term loans, not working capital or your line of credit, to pay for capital assets such as equipment, machinery or real estate projects.
- Seek to extend payment terms, but remember it takes two to tango. Work on improving your supplier relationships.
- Arrange financing ahead of time—not when cash gets tight.