Poor cash flow management is among the leading reasons small businesses fail.
The old adage “cash is king” still holds true today more than ever. It’s the lifeblood of any business, and one of the most important things SMEs need to be aware of.
So in this article, we list 12 cash flow management strategies you can use as part of your financial plan.
Many small business owners make the mistake of only focusing on profits and sales without giving much thought to their working capital.
However, without the cash coming in, those figures don’t always paint an accurate picture of your company’s financial position. It’s entirely possible for a profitable business to struggle because of the simple fact that there’s more cash going out than coming in.
Without a good amount of working capital, small businesses will find it difficult to take advantage of new growth opportunities.
Having a good cash flow management strategy is essential to your business success.
If you lack cash, your finances may go out of control, leaving you with great sales figures but a stack of unpaid invoices and creditors knocking on your door.
Why you need a cash flow management strategy
The key to effective cash management is to fully understand some of the key terms. Cash flow is essentially the movement of funds in and out of your business.
There are two types of cash flow – positive and negative. Positive cash flow is when the money coming into your business from sales or financing activities is greater than the amount leaving your business in the form of expenses, salaries and accounts payable.
Negative cash flow is the opposite. It’s when the outgoings are greater than your incoming cash. The problem with this is that you are left without cash to pay staff, buy supplies, make investments and so on.
Where a lot of businesses slip up is by only looking at profits. Profits and cash flow are two different things so if you’re only looking at profit and loss statements, you’ll be missing key information.
Invoicing a customer will count towards your sales, but until you get that cash (which could be months) that sale has not affected your cash flow yet.
With late payments being a huge problem for businesses, it has meant many companies have struggled to stay afloat as they simply don’t have the liquidity to continue.
For example, the failure of Carillion in 2018 was because of cash flow problems. They held only £29m in cash while owing more than £1.3bn to banks.
That’s why it’s so important to have a cash flow management strategy to control your cash.
1. Conduct a regular cash flow analysis
The first step to managing your cash flow is to conduct a regular cash flow analysis. It’s important to know where your business stands in terms of cash flow so aim to do this at regular intervals throughout the year. This could be every month or quarter or as often as you would like.
One easy way to do this is to use online accounting software. Accounting software makes it simple to reconcile your accounts and generate a cash flow statement. The advantage of using a cash flow statement is that you can identify any cash-flow problems or use that information to create a cash budget going forward.
The great thing about a lot of accounting software is that it will automatically list transactions if connected to your business bank account. This allows you to work with consistently up-to-date information. With up-to-date transactions, you can get a clear picture of your cash flow at any time.
2. Cut expenses
If you find in your cash flow analysis that your outgoings are more than your incomings, it may be time to make cuts. Cutting unnecessary expenses will help to balance the scales somewhat.
Making cutbacks is never an easy thing to do in business. The first step is to identify all of your business expenses and order them in terms of priority. You may find there are things you simply cannot cut back on, but you may see things that can be cut.
Other things on your expenses list may simply need a different approach or a cheaper alternative. For example, if you are spending a lot on printing costs, making your office paper-free could be a way to make a simple cutback. Other more drastic measures could include moving to a cheaper office or even becoming a remote-based company.
Another short-term alternative is to finance purchase orders if you only need a few extra days to pay. You can do this either directly with your vendors if possible or use a line of credit.
3. Tackle late payments with an incentive
One of the best strategies you can use to improve your cash flow and reduce your accounts receivable is to have a strong process for chasing late payments. Late payments are a problem that most small businesses will face at some point, but there are some ways you can try to reduce these.
One tactic includes having an early payment bonus which provides an incentive for clients to pay early, rather than waiting until the last minute.
Alternatively, some businesses include a late payment fee as a deterrent to paying late. Using either or both of these tactics can help to keep your cash flow a lot more manageable and reduce your time to get paid.
4. Make paying easier for customers
Beyond incentives and deterrents, another strategy to improve your cash flow quickly is to make it easier for the customer to pay. Ideally, you want a customer to be able to pay you as fast and easily as possible.
With a lot of bookkeeping software, you can create invoices that have ‘Pay Now’ buttons on them. This is a one-click method for customers to pay directly through the invoice, which saves everyone time and your business taking on more accounts receivable than you’d like.
Another way to make payments easier is to offer payment plans. Customers may be more inclined to make fast payments if there is a more manageable payment plan they can use. If you do this, you will likely want to charge a small interest fee.
5. Set up automated payment reminders
Sometimes people simply forget to pay. If your customers are businesses themselves, they will likely be busy with hundreds of other things and have a long list of people to pay.
To avoid your invoice from getting lost in a mass of emails, you can set up automated payment reminders with most accounting software.
This sends an automated email at an interval of your choosing to remind the customer of an overdue invoice. It’s a simple step that can help reduce late payments and help you tackle your accounts receivable.
Also, a great strategy to use is to check the credit rating of any new customer who places a large order. If they have poor credit, they may also have a poor cash balance so you may not be able to get paid or fulfil their large order.
6. Request a change to payment terms
If you have found customers are consistently paying late, you may want to officially revisit your payment terms. Using incentives, deterrents and automated payment reminders is usually enough for most people. However, if none of these tactics worked, you may want to officially change the payment terms with a particular customer.
For example, you may want to switch to an upfront payment or deposit system before starting any work. You may also ask for a direct debit to be set up for any ongoing payments.
It’s important to understand that poor invoice management can dig a hole in your cash reserves if you don’t pay attention. For example, if you offer your customers 60 days to pay but your vendors ask you for 30, you’ll have a cash flow gap.
It will take you twice as long to get paid before you can pay your bills, so you always want to avoid those situations and set your payment terms accordingly.
7. Use invoice financing and invoice factoring
Another way businesses manage their cash flow is to use invoice financing. Invoice financing is a method of maintaining good cash flow by getting an advance on unpaid invoices. A lender will essentially pay you the invoice that’s due and when the invoice is paid by the customer, you repay the lender with a bit extra.
While extra costs aren’t ideal, invoice financing can provide a much-needed helping hand to ensure your cash flow isn’t struggling.
On the other hand with invoice factoring, you outright sell your accounts receivables to a factoring company for a lower amount than the full invoice.
The company who purchases the receivables assumes full responsibility for collecting the payments going forward. With this method however you will likely get less than with financing so it’s best to explore your options beforehand.
8. Increase profit margins
While tackling late and missing payments is a huge part of managing cash flow, it’s not the only area to look at.
To increase margins and sales should ideally be the goal of any growing business in order to maintain good cash flow. Avoiding a cash shortage is just as essential to growth as is it is to the financial health of your company.
Having a viable strategy in place to continuously work on increasing margins can help create steady cash flow in the longer run.
To boost sales, you may want to look at marketing. To increase profit margins, you may want to cut costs while driving sales.
9. Use a business credit card
Another strategy to manage cash flow more effectively is to use a business credit card as a cash flow buffer. Using a credit card to pay for expenses means that you’re not digging into your cash reserves immediately.
The same can be said about your accounts payable. If possible delay your payment until the actual due date and not before.
This gives you more control over when you pay for your expenses, allowing you to delay payments until you get paid yourself.
10. Build a cash reserve in case of emergencies
It’s good practice to keep an emergency fund of a few months worth of expenses both as an individual and as a business because you never know when things can take a turn. Good small business cash flow management is also about being prepared for unforeseen events.
The COVID-19 crisis is a prime example of this.
While it may be difficult to contribute to a cash reserve, try to get into the habit of saving a little bit at a time when money comes in. Over time, you should aim to have a cash reserve which can cover a few months of expenses.
11. Cash flow forecasting
Cash flow forecasting is the practice of getting an estimate on the business’ future financial position. This is based on anticipated sales of the business to ensure that your company has all the necessary funds to continue running. This lets you plan out how much you expect to make and expect to spend.
Cash flow forecasting can be done by looking at profit and loss, sales and expenses to predict future sales and cash flow. This article from Startups.co.uk goes into more detail about how to put together a forecast.
You can either do this yourself with spreadsheets, software such as Float or by hiring a professional to create a forecast for you. Using software such as Float has the benefit of integration with accounting software such as Xero, Quickbooks and FreeAgent which can help you save time when creating multiple cash budgets for your scenarios.
12. Hire an accountant
One of the very best small business cash flow management strategies is to hire a professional accountant. An accountant can help you analyse your cash flow and identify ways to get paid faster or reduce expenses. An accountant will also ensure that all your tax obligations are met and that you remain as tax efficient as possible.
By following the cash flow management strategies we listed above and being proactive about getting help you’ll put more chance on your side of being cash flow positive and accumulate more cash than you spend.
If you are looking for a new accountant, BrooksCity provides affordable accountancy services in London at a fixed price. We offer a personal approach to small business accounting and strive to add value to help you grow.
Get in touch for a free quote on 020 7100 6150 or request one here and one of our team will be glad to assist you.