Maintaining a healthy cash flow is one of the most critical aspects of operating a successful small business. Cash flow is said to be the lifeblood of any business. If it’s drained, there are immediate and severe consequences. The following is a step by step guide to help the entrepreneur successfully manage cash flows.
1.) Develop a cash budget, also known as a cash forecast. A cash budget typically covers a one-year period that is divided into smaller intervals. It requires the small business owner to determine all the known cash inflows and outflows that will occur during the year. That way, the entrepreneur will have a picture of when the firm will have cash surpluses and cash shortages. This knowledge allows the cash flow to be managed proactively rather than reactively.
2.) Improve your accounts receivable. Accounts receivable (money owed to your business) makes up a large portion of the cash coming into a business, so keeping an eye on them is vital to improve cash flow. Collecting money may not be easy, but there are steps you can take to stay on top of payments. Have a tight credit policy and check the financial health of a new customer before offering them credit. Ask a new customer for three business references and don’t neglect to call them. Charge a late fee to customers who pay late. Follow up on late payers with phone calls and letters. Don’t send out new merchandise if bills remain unpaid. Consider asking for a small deposit on new orders, to make sure you have some cash on hand. Develop a formal reminder system (aging accounts receivable) that takes on a more serious tone as the lateness increases.
3.) Improve your accounts payable. It’s beneficial to keep cash on hand for as long as possible. Pay an invoice on the day it is due to keep consistent cash flow. Negotiate with your suppliers to see if you can work out an agreement to extend payments as long as possible. Don’t issue advances to employees. Use business credit cards for travel, lodging, meals and small expenses.
4.) Improve your inventory management. Monitoring your daily sales activity and making sure your on-hand inventory reflects these patterns. Inventory that is not being transformed into cash is useless. Cash flow determines how much inventory can safely be carried by a firm while still allowing sufficient cash for other operations. Your inventory management goal should be to commit just enough cash to inventory to meet demand. Determine how fast you can get inventory, once you order it (lead time). Try to order as late as you can (just-in-time inventory). Determine your economic order quantity and don’t order too much inventory. Shop around to make sure you are getting competitive prices. Get rid of “dead” inventory and turn it into cash.
5.) Invest your cash wisely. When possible, remove all account balances that are earning little or no interest and reinvest them at higher rates. Determine how quickly checks that your company deposits become available as cash. Obtain availability of 0 to 2 days on deposited checks. Ask your bank for their “availability schedule” and shop around at various banks, if appropriate. Don’t deposit checks in a bank’s ATM or use the Night Depository. Many businesses make the mistake of keeping too much money in their bank accounts to pay for bank services. This money could be used more effectively elsewhere, as in paying off loans or investing at more competitive rates. Take time to find out what your minimum balance needs to be.
6.) Duplication of Compensation. Analyze duplication of effort and lack of productivity in your workforce. You may need to cut personnel hours in those areas to save on payroll tax costs.
7.) Look into Continuity of Sales or Services. Continuity sales are a contract to purchase products or services on an installment basis for a fixed period of time. It’s a great way to get money up front. The customer’s incentive is that by paying up front, he/she will get a better deal, in the long run. Punch cards or a future contract for services are great examples of continuity of sales. You can structure payments for continuity sales on almost any basis, but it’s best to go for complete payment up front. This philosophy is based on a customer’s commitment, and they’ll be a lot more committed with their money on the line.
8.) Keep track of delivery costs and shipping fees. It may be cheaper to pick up supplies and inventory yourself than to pay shipping charges. Consider hiring a part-time employee to pick up and deliver supplies and products.
9.) Take a good look at your insurance policies. Ask your insurance company about ways to reduce premiums. Shop around for insurance and package policy discounts.
10.) Collect money as fast as you can. Try to speed up customer orders by having them fax or email them to you. Send out your invoices the same day goods are shipped, not a week or two later. Indicate on your invoice when the payment is due, and specify the penalty interest for late payment and/or incentives for early payment (i.e. 2/10 net 30).
The process of cash flow management is relatively easy to monitor once systems are put into place. By employing these ten strategies, you can avoid cash flow problems and create a competitive advantage, just by having a workable cash flow plan.