Cash flow management

Having a firm handle on the theory and practice behind cash flow and cash management is central to your ability to run a profitable small business. 

The term ‘cash flow’ is bandied around liberally whenever we talk about business health and profitability. But are you fully across how to manage your cashflow and tactics to improve it?

Let’s take a closer look at how to manage cash flow in a small business to ensure financial stability and promote growth.

What is cash flow?

Let’s start with the basics – what is cash flow exactly? 

The term cash flow refers to the regular inflowing and outflowing of money through your business. 

The cash your business receives (generated by sales) represents your ‘inflows’. Conversely, money your busines spends on expenses such as running costs, wages, materials, and stock represents ‘outflows’.

The goal of any business is to create positive cashflow, which speaks to profitability and the ability to cover outflows or debts. Negative cashflow is business poison and needs to be actively avoided as it represents an inability to cover outgoings and a lack of profits.

Cash flow is the lifeblood of your business and your ability to manage it responsibly will be the difference between a successful business and a failed venture.

How to manage business cash flow?

The ability to deftly manage your cashflow, with an eye on positive metrics, is a central business skill that can be learned. Let’s investigate some key techniques and tactics to assist with cash flow management in your business.

• Accounting and bookkeeping

Your cash flow management is only as good as your accounting and bookkeeping practices. By ensuring precise, up-to-date and regular bookkeeping, you can then be sure you’re monitoring cash flow accurately. Using simple cloud accounting software is the best way to go about this, as it can be helpful when including your cash flow into your financial statement at a later date.

• Invoicing

By invoicing your customers correctly, quickly, and with modern methods, you’ll speed up settlement and naturally boost available cash resources. Make sure you invoice as soon as possible, utilise speedy e-invoicing software with ‘pay now’ functionality, and maintain consistent pressure on late paying debtors. You can also choose to tighten your credit control policies.

• Separate finances

Many small businesses and sole traders make the mistake of mixing their finances. Never use your personal accounts or credit cards for business purposes. By maintaining simple and distinct separation between business accounts/cards and personal ones, the monitoring of cash flow becomes simpler and more visible.

• Cost cutting

You should have a regular schedule for undergoing business expense monitoring. You should be:

– researching new suppliers

– asking for discounts

– checking you’re getting the best prices

–  looking at where expenses are unnecessary or could be trimmed

• Regular reporting

By using accounting software and ensuring you update your books regularly, you can then run accurate reports and cash flow statements. By monitoring your cash flow reports and profit and loss statements, you’ll maintain awareness and the ability to act early.

• Lease instead of buy

While purchasing assets can be advantageous, especially if you capitalise on tax breaks, leasing can be a great way to manage cashflow. Not only do you not require cash upfront to purchase an asset (which eats at valuable reserves and complicates your ability to pay expenses) you also have a dependable payment schedule. This regular lease payment can then be used for cash flow forecasting and budget management.

• Budgeting

Your ability to budget effectively goes hand-in-hand with cash flow management. If you know what your expenses look like and can predict sales with a high degree of accuracy, you’ve effectively managed your cash flow.

• Cash reserves

Whenever possible, you need to be working on amassing a cash reserve. This may mean you trim your own take-home pay or forgo certain expenses to build a cash reserve. If you run into difficult times or the market shifts, you can be caught unaware and cash poor when you need it the most. A cash reserve protects you from these periods of poor sales.

• Monitor stock and supply levels

Keep a regular eye on your stock or supply levels. If you invest too much in bloated stock ledgers, you’ll have tied up cash that could be used elsewhere, especially if you experience a sales shortage.

What are the limitations of cashflow management?

While deploying cash flow management tools and techniques are powerful ways to ensure you’re a profitable business with the ability to cover expenses, there are limitations.

Cash flow statements will not show:

• proper liquidity position
• net profit
• true financial position – only a cash position
• accrual accounting

Cashflow forecasting

Cash flow forecasting speaks to your ability to accurately predict the inflowing and outflowing funds in your business, within reason. If you seek to futureproof your operations, or have business growth opportunities in mind, cash flow forecasting is a powerful ally.

To do this well, you’ll need at least some level of business history to base your forecasting upon. If you couple a trading history with cash flow reporting or cloud accounting tools, you have everything you require.

Shortening the sales cycle

An excellent avenue to promote healthier cash flow in your business is to shorten your sales cycle. 

The longer it takes you to deliver your products and services )coupled with a lag in payment), the more it will act to jeopardise your regular cash flow. This is particularly salient if you invoice your customers – you may technically have money coming your way, but if a bill is due, you’ll lack the funds to pay it. 

Being caught without cash can lead to serious complications such as supplier cancelations or business loan repayment issues.

Understanding working capital

Working capital is a metric that ascertains your current, or short-term, financial position in terms of cash. 

Working capital is the available funds your business has to cover your regular expenses and/or debts.  While working capital is similar to cash flow, it’s a distinct term that refers to available cash-on-hand for a specific period in time.

Cash flow statement

Generating a cash flow statement should be a regular part of your bookkeeping and internal reporting. 

A cash flow statement is a distilled piece of documentation that shows where money is flowing into a business and where it flows out. 

You would normally designate a set time period for your statement (monthly, quarterly or yearly) and then undertake the following calculation:

1. Determine your opening balance – how much cash do you have on hand at the beginning of your reporting period?
2. Determine your inflowing cash amounts – add up every single source of cash that came in during this period.
3. Add the amounts you calculated in steps one and two together to arrive at your total cash balance.
4. Determine your outflowing – add up every single expenditure that flowed out during this period.
5. Subtract your step four outflowing balance from your total cash balance from step three. A Positive result means you’re cash positive and can cover your expenses. A negative result means you’re cash negative, and you cannot cover your expenses.

The best and most efficient way of tackling this is to put your accounting software to use – most modern solutions can generate a cash flow report with ease.

How does cash flow help management in decision making?

Cash flow management is one of the most useful undertakings when it comes to informing your decision making.  

How does cash flow help management make decisions? When you run cash flow reports or take a closer look at how and where you earn and spend money, important decisions can be backed by fiscal reality and reasonable forecasting. 

Whether you want to expand your operations, buy an asset, uptake new products, or eliminate expenses, understanding your cash flow will influence all those decisions.

For example, if you witness robust and positive cash flow, year on year, it’s easier to justify investment or expenditure on assets and still ensure you remain profitable.

That concludes our guide to cashflow management for New Zealand businesses. Always remember that the best way to get an accurate handle on cash flow is with cash management software or accounting software. By ensuring you update your solution with current figures, you’ll have a powerful tool on your hands that will help you make better business decisions.