“Poor cashflow management” is the nightmare that keeps many business owners up at night. It can eat in to your “future plans”, savings, and at worst it can sink your business. It is one of the top reasons why small businesses go under within their first 3 to 5 years.
So, what is poor cash flow? Simply stated it means that you are consistently spending more money than you are making. Let’s say, for example, last month you received R5,000 in cash, but you outlaid R10,000 – that leaves you with a negative cash flow of R5,000. If that happens once or twice because of unforeseen circumstances you can sometimes work around it, but if it’s happening consistently then you need to address it.
There are a few common causes of cash flow problems, and the good news is there are actually many ways to avoid negative cash flow.
CASHFLOW MANAGEMENT TOP TIP
You have a cash flow problem, so accept that you are doing something wrong. You are not the first to suffer from this problem, and you will not be the last.
Having accepted this, it’s time to take an objective and clinical look at your business. You need to take a forensic look at each area of the business to identify where the problems lie.
You need to dig deep and look closely. Consider getting outside assistance to shine the light in places that you do not want to look.
Being objective about how and where you are spending your money is going to be difficult – so engage someone who maybe knows more than you, but more importantly is prepared to challenge, and ask the difficult questions.
PROFITS ARE JUST TOO LOW
Your profit is your major source of cash. It usually comes in from payments from your customers or through selling assets. If your business is consistently unprofitable, you won’t have enough money on hand to cover all your expenses. As the Owner you either have to put more cash into the business, or you borrow more cash than you can repay or worse, you have to close your business.
There can be a number of reasons why you aren’t generating enough profits:
– Sales are lower and slower than expected
– You’ve got low staff and operational productivity
– You aren’t charging enough for your products / services
– Hidden costs and inefficiencies are catching up with you
– You’ve got high and uncontrolled spending
OVERSPENDING
When times appear to be good, it can be tempting to purchase things that you don’t really need, especially if you have cash on hand. This spending money on non-business critical things will only drain your funds, meaning you won’t have sufficient cash to pay for the items that really matter, or when times turn bad.
Before you spend, decide if it’s really what your business needs right at that moment. It’s often a good idea to keep a list of Must- Haves and Nice-to-Haves that you can review regularly so that when you’re cash positive you know exactly what you need to spend money on to keep your business ticking along.
Ask “how does this spend contribute to making better profits?” Not everything will be about the profits, but it’s a good idea to start with the difficult and challenging question.
Protect the cash. Always weigh up the option of finance and spreading the cost over a period of time.
GROWING TOO FAST
Expanding your business too soon, without a concrete plan or sufficient money can put you in the red. For example, taking on a new big customer and lots of orders, but you don’t have the cash to cover the inventory. Or if you start paying rent in advance for your new warehouse space that you aren’t quite ready for, you’ll quickly find that cash flow becomes a problem.
Expanding too fast can also mean growing your current operations too quickly. Not factoring in all of the expansion costs, and not seeing the hidden costs is a common problem.
If things are going well it can be tempting to significantly increase your retail orders even if you don’t have enough resources in place to fulfil them but remember that this can negatively impact your cash flow.
When things are going well it’s tempting to increase staff compliment, but you turn a blind eye to the inefficiency of existing staff, and lack of performance measurement systems.
Maintain a disciplined spending plan and always have reserve cash in case of unexpected costs or emergencies. It’s a good idea to regularly perform a robust cash flow forecast.
A cash flow forecast is similar to a budget plan where you predict all your business’ income and expenses within a specific time period, (we’d suggest at least monthly and quarterly). It will help you manage all your expenses and make it easier for you to determine whether you can afford to make those new investments, or if you’re actually ready for expansion.
OVERHEAD EXPENSES TOO HIGH
Overheads are your business’ ongoing expenses that aren’t directly related to the production and selling of your products / services. Some common examples are your rent, internet, and other utility bills. While these costs are important in keeping your business doors’ open, they can hurt your cash flow, especially if they start getting out of hand. Once your overhead expenses grow too high, it can become difficult for you to pay them on time, and you might eventually see yourself running out of money.
A simple rule: Don’t add an expense that you are not willing to later remove.
Regularly review all your expenses. You can never control your expenses unless you have complete visibility over all your expenditures. Write down all your overhead costs, item by item, and from there, identify those that you really need and cut down on everything else.
Think carefully about incurring fixed expenses. Think about notice periods and exit clauses. If you think there’s nothing you can do without, try switching to cheaper options.
UNEXPECTED EXPENSES
Spending money on unexpected expenses or changes can put a strain on your cash flow. Usually, these changes are things that you didn’t foresee and did not include in your cash flow forecast. In short, you aren’t able to allocate money to pay for them.
A few of the most common unexpected expenses are loss of staff, equipment breakdown, and an increase in market competition that requires your business to invest in new technology or equipment.
Ensure that your budget includes a contingency amount. Define an amount that you will always hold in reserve and stick to that number.
Watch the small details. If you have a monthly or yearly subscription that you no longer use, cancel it.
If you have admin tasks that you do repetitively, consider automating it to reduce your expenses. The idea is to eliminate everything that isn’t necessary for your business so you can have mcash reserves in case of emergencies.
EXCESSIVE OWNERS WITHDRAWALS OR BORROWINGS
This happens when you withdraw too much cash out of your business or take loans out for your business, but you don’t have sufficient profit to repay it. Sure, borrowing large amounts of money may prevent you from running out of funds in the short term, but keep in mind that it only delays a potential future financial crisis. In the end, it will still cause serious cash flow problems, especially if you aren’t able to work on your loan repayments. Remember that loans involve fluctuating interest rates and may sometimes require shorter repayment schedules.
Using the business as your personal ‘cash cow’ might improve your short-term quality of life, but when times turn tough, the cash is gone.
Stick to your budget. If money is tight, don’t make decisions that will force you to borrow more money from loans or withdraw cash out of your business. Reserve as much cash as possible so you’ll have something to use when emergencies arise. The best practice is to set aside 3 to 6 months’ worth of operating costs.
HIGH (OR LOW) PRODUCT PRICING
Your product pricing also affects your cash flow position because it can lead to low profit… If your price is too high, no one will want to buy your products, but if you keep it too low, you won’t be able to generate the revenue you need to keep your business’ doors open. It’s all about balance.
Keep the prices of your products competitive. Make sure they aren’t too low or too high to guarantee you’ll always have sufficient cash coming in. It’s even better if you can set different prices for different customers.
Know the true cost of everything. Assumed costs that are built into your selling price can often lead to actually selling at a consistent loss.
INVENTORY
If you find yourself in a negative cash flow position and money is tight, there is one place you should look into straightaway: your inventory. Excessive inventory or overstocking can impact the movement of funds in and out of your business. It can tie up significant amounts of money and occupy costly warehouse space.
What’s worse, products that stay on your shelves for too long can also be at risk of becoming outdated and unsellable making you less profitable.
Master the art of predicting your orders. Estimate how many orders you’ll receive in a week or month so that you can stock just enough and ensure you won’t overproduce goods.
Good inventory management is critical. If inventory is a key aspect of your business, then invest in an inventory management system. It may seem like an extra cost but inventory management systems can help you identify the products that don’t sell and can provide you with inventory forecasting so you can avoid being out of stock or overstocked. In other words, sometimes you need to spend money in order to save money.
POOR FINANCIAL PLANNING
If you fail to perform a good cash flow forecast and don’t set your budget beforehand, you’re more likely to suffer from cash shortages, and could find yourself in serious financial difficulty. It doesn’t matter whether you come up with a great financial plan and an almost accurate forecast, if you’re following a negative cash flow business model you’re going to find yourself in trouble.
Set up your balance sheets, profit and loss statements, and cash flow forecasts. This doesn’t have to be scary. Learn to master the basics.
But our best advice to you is this – if you want your plans and forecasts to be as accurate as possible, get yourself a professional accountant. An accountant can show you what you need to do and can even help you set up a system that can generate instant financial reports.
Employ the experts so that you can spend the time being an expert on your business.
DEBTORS AND LATE PAYMENTS
One of the major causes of poor cash flow is late payments from customers. The reality is that you are using your money [working capital] to finance your customers business. So, before you extend credit, ask yourself if you can afford to. Avoid selling only on credit terms. Put systems and procedures in place to ensure that you collect on time.
Make payments easier for your customers. It’s good to let your customers pay you using the device they use most: e.g., smart phones, and credit cards. Start accepting mobile and digital payments. By doing this, they will have fewer reasons to pay late.
If you extend credit, stay on top of collections. Do not let your Debtors believe that it is ok to pay late. This is often the beginning of a very slippery slope.
Always start with offering terms that work best for your business. Incentivise cash payments, and early settlements.
CONCLUSION
Are you suffering from persistent or regular cash flow problems? Do you recognise some of the mentioned causes, or maybe there is something else?
Do you have the sense of lurching from one cash flow crisis to the next, and that feeling of only just keeping your head above water?
Confronting the cash flow problem is critical, so if you cannot face it alone, or you cannot be sufficiently objective or clinical, then engage with someone who can help.
It might just save your business.