For small business owners with little-to-zero experience with business finance, staying on top of your cash flow can appear to be a daunting task. Here's our guide on how SME business owners can manager their cash flow - it’ll take you through the basics - starting from defining cash flow management and other relevant key concepts, to exploring why careful cash flow management is important, as well as the common causes of cash flow challenges that small businesses face. We’ll then dive deep into five key strategies that you can easily implement for better cash flow management.
Ready? Let’s begin:
Simply put, cash flow refers to money that is being transferred in and out of your business. Cash flow management is thus the process of tracking and analysing how much money is coming into and going out of your business. This enables business owners to estimate how much cash they will have at any point in time, create cash inflow and outflow projections and assess when a positive or negative cash flow could occur.
There are core metrics that every small business owner should monitor, such as the operating margin, cash burn rate, cash flow and net profit. Among these metrics, associating cash flow with profitability is a common area of confusion, particularly for new business owners. It’s important to keep in mind that these are two distinct financial parameters - and it’s not uncommon for small businesses to be in the situation where cash flow and profits are at odds with one another. You can be cash flow positive without being profitable, or be profitable but still be cash flow negative.
Many small business owners struggle with keeping their cash flow on an even keel. Below, we’ll delve into five strategies you can implement to improve your cash flow, and get it back on track.
With tardy payments being one of the biggest financial challenges for SMEs, we can’t emphasise enough about the importance of staying on top of your accounts receivable, so as to minimise delays in receiving your payments. The following are action steps you can implement:Follow invoicing best practicesEven minor invoicing mistakes, such as not providing a detailed description for a line item can result in invoice disputes - and subsequently cause payment delays. To speed up customer payments, here are invoicing best practices you need to have in place:
Protect your cash flow through milestone payments and depositsIf you’re working to fulfil a large order, consider requesting for a deposit of at least half of the total amount to be invoiced. With extended projects, it can be helpful to structure your payments by milestones, rather than receiving a final payment at the end of the project. In doing so, you’ll avoid running into dangerous cash flow situations - such as when you’ve covered the costs for a large order, yet are left waiting on late payments. Tap into external financing solutions to turn outstanding invoices into cashExternal financing solutions like invoice factoring offers a way for businesses to free up capital that would otherwise be tied up in outstanding invoices for 30 days or longer. Depending on the factoring company, you could obtain funding as soon as within a day or two from your application - which makes this a great option if you’re in need of immediate funding.
With the right strategies and proper planning of your payables, you’ll be able to maximise their potential, thereby keeping your cash flow healthy. The following are action steps you can take:Build positive relationships with vendors and suppliersFostering strong relationships with your vendors and suppliers can be key to ameliorating the problem of financing and tardy payments. According to My Toby Koh, group managing director of Ademco Security Group, it all “boils down to relationship-building”. He further elaborates: “We have built a relationship with a lot of our clients that makes it more of a partnership. Even if they tell me they need longer credit terms for whatever reason, I know they will pay me when the time comes. Planning becomes a lot easier.”To foster strong business relationships with your vendors, here are some pointers to keep in mind:
Take full advantage of payment termsIf your supplier has extended a net 30 or 60 contract, do make full use of it. Taking advantage of creditor payment terms will enable you to keep cash in your company longer, leaving you with more cash on hand to cover business expenses like payroll and rent. Categorise your paymentsConsider grouping your payments together into different spending categories, such as rent, taxes, insurance, operating expenses, miscellaneous expenses and more. There are two benefits to categorising your payments - firstly, you’ll gain a better understanding into how different groups of expenses add value to your business, so you can reduce or eliminate categories that don’t create significant benefits. Secondly, it’ll enable you to be more strategic with timing your payments. Ask yourself: “Which of my payments are vital for my business operations, and which are payments that I can afford to delay?” While you’ll need to be timely with paying out rent and payroll, other expenses, such as sales bonuses may be deferred for a reasonable period of time.
In an Inc.com article, keynote speaker and author Jim Schleckser wrote that the most important tip he had for first-time entrepreneurs was: don’t run out of money. While the advice may be seemingly obvious, it’s a factor that’s often overlooked by many business owners. Schleckser explains that entrepreneurs have a tendency of looking at their P&L first - yet he emphasises that they need to pay as much, if not more attention to their cash flow statement. So if you don’t yet have a process in place for monitoring your cash flow, here are some suggestions to get started:
While striving for growth, it’s important that small business owners understand their limitations - so that they don’t wind up expanding too quickly beyond their capabilities, thereby creating pressure on their cash flow. This typically happens when a company is left waiting on late payments, or are collecting smaller payments from older projects - while simultaneously doling out payments to cover the costs of financing new projects of a larger scale. It’s a problem that entrepreneur Tim Berry has encountered. In an Entrepreneur.com piece, he shared: “One of the toughest years my company had was when we doubled sales and almost went broke. We were building things two months in advance and getting the money from sales six months late. Add growth to that and it can be like a Trojan horse, hiding a problem inside a solution. Yes, of course you want to grow; we all want to grow our businesses. But be careful because growth costs cash. It’s a matter of working capital. The faster you grow, the more financing you need.”
A business line of credit is a handy tool you can tap for better cash flow management: it serves as a cash cushion for unforeseen expenses, and aids seasonal businesses in balancing out their cash flow across peak and lull periods.When it comes to making your loan application, remember this: timing your application right is key. Ideally, you should apply for a line of credit when you don’t need it, as this leaves you with ample time to look around for a financing solution with favourable loan terms. If your credit profile isn’t in great shape, you’ll also have sufficient time to take steps towards building up your credit score, so you can qualify for better loan terms or a wider range of solutions when you submit your application.