Cash is King! Most businesses know this, they say it, but not all live by this. When it comes to staying long in the market as a business, it is not just a matter of profitability but liquidity. Liquidity in business simply refers to the amount or volume of cash (this is also referred to as working capital) you have access to as a business to keep your operations alive. A business might be profitable but still fold-up simply because it no longer has access to enough cash to keep its operations going, that is, the company has reached insolvency; even though the company has assets but it takes time to sell off fixed assets and thus can meet its immediate obligations. Managing cash and working capital is critical for any business.
Cash flow is simply the incoming and outgoing of cash in a business purse. When there is a lag or delay especially in the incoming of cash, it poses a problem to the business. This is why it is often advised that a business keeps its receivables far lower than its expenses (i.e. Cash coming in should be more than cash going out, this also applies to personal finance). Salaries need to be paid, rent needs to be sorted, and other miscellaneous expenses must be attended to keep the business going whether profitable or not. All these are dependent on the amount of cash available. You’ve probably heard the statistic that over 60% of businesses that failed are still profitable, but just ran out of cash or became insolvent/illiquid.
Cash is King! Most businesses know this, they say it, but not all live by this.
A business that can effectively manage time difference between the outgoing and incoming of cash by making cash outgoings longer and making the incoming of cash shorter is likely to exist longer than a profitable business that cannot achieve this. This is why an eagle eye must be kept on the figures of the business. This is critical for various decision-making point in the business.
Before we delve further into practical ways to effectively manage your business cash flow, let us examine the basics of cash flow.
As pointed earlier, cash flow is the movement; inflow and outflow of funds in a business. A business can measure its cash flow either weekly or monthly or quarterly basis. There are primarily two kinds of cash flow
This is when the amount of cash coming into the business either through debts, sales, receivables exceed the amount of cash going out of the business as expenses or credits to customers.
This when a business expense is far greater than its income. It could also mean a situation whereby a business has limited access to funds such as receivables to meet its financial obligation. At this point, it is bad for the business, and the business is said to be illiquid and runs the risk of going bankrupt. We would discuss some practical advice to help you effectively manage your business cash flow.
Do Not Mistake Profit For Positive Cash Flow
The fact that your business is making a profit does not mean it cannot fold up in a couple of months. Beyond your P&L statement, other drivers determine whether your business has a positive cash flow or not, other factors such as accounts receivable, inventory, accounts payable, capital expenditures, and taxation matters in staying cash flow positive. As a small business, so as not to be disillusioned by the profit yields, you can seek the part-time service of an accountant to help you monitor and these figures effectively.
Know Your Break-Even Point
This is where the service of an accountant becomes more necessary. As much as profitability does not guarantee positive cash flow, you need to know when you will be in profit as a business when income minus expenses are zero. This would help you know your limits as a business.
Always Keep Reserve Funds
To avoid the risk of sudden cash burn, you must keep at least three months of operational expenses in advance. When you find out your break-even point, the next best thing is to keep aside a certain amount of funds to keep you in business in cases of poor business income.
Always Seek Leverage & Delay Payables
Seek short-term and long-term financing for your business operations and projects. This is called leverage, rather than spending all the available cash at your display, borrowing funds from banks or seeking equity financing can be a good way to avoid cash burn. Another way to seek leverage is through credits from your suppliers. This is an effective way of delaying payables.
Don’t leave your cash idle overnight
Place any funds that is in your accounts in an overnight placement account. So you can earn interest on the cash, you can use these cash to pay more expenses.
As a small business owner, understand early that cash is king. By applying practical advice such as the ones explained above would help you avoid the high rate of cash burn. And would save you from a lot of troubles. And keep you in the game longer.
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