If you had to make a list of some of the biggest issues that plague small business owners on a regular basis, cashflow problems would undoubtedly be right at the top.
Cash flow is about more than just the money coming into and going out of your business. It represents your ability to capitalize on opportunities as an entrepreneur as opposed to watching them pass you by because you lack the necessary cash on hand. It’s about making sure that you have the cash inflow you need to pay your employees on-time. It’s about understanding how you’re going to pay vendors and other suppliers to get your products and services into the hands of the people who need them on-time. The list goes on and on.
Based on this, it should not come as a surprise that an estimated 82% of all small businesses that close do so because of a significant cash flow problem. When you also consider the fact that the number of small businesses that fail to make it beyond their fifth anniversary is estimated to be 48%, it’s easy to see why this is one critical aspect of being an entrepreneur that you do not want to overlook.
To be clear, none of this is to say that if you manage to avoid significant cash flow problems you’re guaranteed to run a successful business for years to come. Unfortunately, the situation is a lot more malleable than that – there are still a lot of other variables that need to be accounted for. It’s simply that proper cash flow forecasting is imperative to avoid a lot of the major mistakes that new entrepreneurs in particular commonly make. It will also help avoid disruption and can be a key contributing factor in your business’s ability to scale and grow larger over time.
Thankfully, getting a handle on cash flow problems as a small business owner isn’t necessarily as difficult as one might assume. It does, however, require you to keep a number of crucial things in mind along the way.
The Ins and Outs of Cash Flow: Breaking Things Down
First, it’s important to get a handle on just what is meant by the term cash flow in the first place. Generally speaking, it can be separated into two categories: cash inflow and cash outflow.
Cash inflow refers to the amount of money that is coming into your business at any given time. This is typically represented by the money being generated when you sell your products or services. Note that not every dollar that comes into the organization is revenue, mind you – you still have expenses and things of that nature to account for.
Cash outflow, as the name suggests, is the money going out of your business. This includes not just payments to people like your employees but also payments to vendors and other suppliers. Regular expenses and debt payments would also fall under the cash outflow umbrella.
These two concepts are closely related and a cash flow problem in one area will almost immediately start to impact the other. If you start making late payment after payment to your suppliers, for example, your relationship will be harmed, and you may find it difficult to find people to work with in the future. Making a late credit card or other debt payment could hurt your ability to borrow (and negatively impact your credit rating). It can even harm your reputation not just with your customers, but with your employees as well.
All of this is why there really are no such things as “small” cash flow problems.” What seems like a minor issue at first will soon snowball into something far bigger if left unchecked, which is why you need a stable foundation in place to avoid these types of situations altogether.
Pay Attention to How (and Why) You’re Borrowing
By far, one of the most important ways to make sure you have a handle on your cash flow situation is to gain as much insight as possible into the money that you’re borrowing – and why.
It’s rare that an entrepreneur has the money on-hand to build an entire enterprise on their own without taking out additional debt like small business loans. Many even use business credit cards and similar borrowing techniques to get up and running and to make sure that things are running as efficiently as possible.
Having said that, you need to pay careful attention to borrowing too much or borrowing from sources that are too expensive. If you have too many loans with a high-interest rate, you may be paying more each month than that money is actually bringing into your business. If you start to miss a payment or two, those interest rates could increase even further – causing you to take on additional debt just to stay afloat.
If possible, refinance any high-interest-rate credit cards and similar loans to take advantage of more favorable terms and conditions. Likewise, don’t borrow additional money if you’re already strapped or if it just doesn’t make long-term financial sense to do so.
Maintain Those Cash Reserves
One of the biggest lessons that many small business owners learned given everything going on in the world over the last few years has to do with the importance of cash reserves.
One day, everything is going smoothly and exactly as expected. The next day, something unprecedented happens – like a sudden global pandemic begins, forcing most businesses to indefinitely close their doors without any indication of when or even how they’d re-open again.
According to one recent study, 17% of small business owners said that they’d have to shut down permanently if they were faced with just a two-month-long revenue loss. This is why cash reserves are critical – they help you prepare for whatever life happens to throw at you, regardless of how unexpected it may be.
In other words, don’t immediately spend every extra dollar coming into your business after expenses and other payments are accounted for. Try to build up as large of a reserve as possible so that if something does happen, you’ll at least be able to weather the storm for a while until you come up with a more permanent solution or until conditions return to normal.
Monitor Your Receivables
To circle back around to the concept of how devastating a late payment can be, another one of the biggest sources of cash flow problems touches on the same idea, albeit from a different perspective: your accounts receivable status.
Simply put, accounts receivable refers to the money that you are being paid by your customers (either standard consumers who purchase a product or service or other businesses) in exchange for something of value. If you’re a B2B organization that sells a product to other businesses, for example, you likely send out invoices to those customers on a regular basis. That represents money you are owed, certainly – but the longer those invoices go unpaid, the more likely you are to wind up in a decidedly negative cash flow position.
Not only is this a common problem that a lot of businesses face, but it’s also one that is, unfortunately, getting worse. One survey conducted in 2020 showed that over the course of the previous two years, small business owners reported that their rate of outstanding receivables increased a massive 81%. Keep in mind that this survey was also taken prior to the onset of the pandemic, meaning that this number probably only got higher over the following two years.
In an effort to help prevent this from becoming a major cash flow issue for your own small business, there are a few important steps you can take. First, make sure that you’re closely following all outstanding invoices in the first place. You can’t collect on invoices that you’re not sure were sent in the first place. You need a system in place that clearly outlines who owes what amount of money, when those invoices are due, and who has paid and who hasn’t.
Likewise, in an effort to entice certain people who may make regular late payments, you could offer some type of pricing discount or other incentives. You could offer a discount of a certain percentage if the invoice is paid immediately, for example. Or a similar reduction in prices if the invoice is paid in cash. Yes, you’ll lose out on a bit of money from offering a discount, but you’ll avoid having to wait for indefinite amounts of time to gain access to the money that you are owed. Never neglect payment terms like this as far as cash flow is concerned.
Work With a Financial Professional
Another one of the most common cash flow problems that new entrepreneurs deal with in particular involves attempting to handle all aspects of this part of their business on their own.
By now, you’re an expert in running your business – that doesn’t make you an expert on the financial side of the equation. Simply keeping up with something like accounts receivable information or expenses can quickly become a full-time job, which is a problem since you already have one of those you’re supposed to be devoting the majority of your attention to.
Thankfully, the solution is clear: find a financial professional that you trust who has experience in the specific industry that you’re operating in. Not only will they be able to help you come up with an effective cash flow management strategy, but they can also put together essential documents like a cash flow statement and cash flow forecast data as well. The former paints a vivid picture of where you stand today, while the latter helps you see what you will achieve if you stay on the current trajectory.
A cash flow forecast is particularly important as, if you’re on a trajectory for poor cash flow or even negative cash flow, you’ll know about it as soon as possible so that you can hopefully do something about it. Even if everything is going smoothly, they’ll still ensure you have the most accurate and actionable information to make the best decisions for your business.
Keep Control Over Your Expenses
Finally, one of the most common cash flow problems that a lot of businesses face has to do with ballooning expenses. Yes, there are certain things that are beyond your control that are “costs of doing business” – like the amount you’re paying for utilities to run a physical location, for example.
But especially if you’re experiencing dwindling cash flow, there are a number of steps you should take immediately. Take a look at all the business services you’re paying for and stop the ones that aren’t absolutely necessary, at least temporarily. If the issue is that your suppliers are increasing their prices, try to find ones that offer similar items at lower costs without compromising quality.
In general, look for opportunities to reduce your operating costs as much as you can, at least for a little while. It can certainly help ward off any impending disaster and allow you to get back on your feet through a series of strategic financial moves in the days and weeks to come.
In the end, especially in the early days of any small business, you need to come to terms with the fact that cash flow will matter more than profit. You’re not going to break even overnight, but negative cash flow and related issues could bring your organization to its proverbial knees before you know it.
Not only does something like a cash flow forecast help give you advanced notice of any problems that you may encounter in the future, but it also makes sure that you have the cash on-hand needed to fend off unexpected situations. It puts you in a better position to capitalize on opportunities and helps your business continue to scale and evolve over time. When you also consider the fact that it will also help lower your stress levels as an entrepreneur because you can spend less time worrying about money and more time putting it to good use, you’re looking at a perfect storm in the best possible way.
If your business is experiencing cash flow problems or you want to talk over budgeting or other cash flow tips, reach out to our office for a consultation. We are here to help.
If you have any questions, please contact our office at (503) 224-5321. Isler Northwest LLC is a firm of business advisors and CPAs in Portland, Oregon. Our service goal at Isler Northwest is to earn our clients’ trust as their primary business and financial advisor.
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Portland, Oregon 97201