Focus on the causes of cash flow problems, not the symptoms
For many businesses, the immediate reaction to resolving a cash flow crisis is to reach to their bank for a loan or a credit extension. This might be the quickest answer, but it can result in an undesirable and unnecessary cut in profits.
A more effective and long term alternative to borrowing funds is to focus on determining what is hindering your cash flow, and then implementing proactive strategies to prevent the problem happening in future. Here are some common situations to look out for.
Rapid sales growth
An unprecedented increase in sales can be a welcome prospect, but often means having to invest more working capital than anticipated to honour your new commitments. To avoid cash flow issues, be honest about how much new business you can take on. Negotiate agreements with your suppliers regarding payment dates, and implement invoicing processes to ensure that necessary funding is received in advance.
Failing to take budget variances into account
While business owners will invest a lot of time and effort in creating in-depth budgets, they do not always place enough emphasis on variances that are likely to occur. Adverse or unfavourable variances can be detrimental to cash flow, so be prepared for them and ensure that any recommendations from a risk analysis have been implemented.
Despite increases in revenue and sales, you may find your profits falling unexpectedly, perhaps owing to an unprecedented rise in overheads or production costs. Interest payments on credit cards or loans can also lead to a major cut in profit, so ensure you keep a regular eye on expenses.
Late payment from clients can cause major issues with liquidity and cash flow. If this is becoming an ongoing issue, more emphasis should be placed on implementing customer checks and receiving payment or part-payment in advance. If some clients are allowed to pay via credit, the length of terms offered may need to be revised.
Inward cash flow is the life blood of any business, and by understanding the causes of disruption to it, you can plan to avoid them and ensure funds are always available.