“Having a realistic grasp on your cash flow is crucial for any small business,” said Mike Michalowicz, serial entrepreneur and Creator & Author of Wall Street Journal bestseller Profit First.
Without a doubt, cash flow is the lifeblood of any small business. However, it’s also why many businesses fail. According to the U.S. Chamber of Commerce, 82% of all small businesses close because of cash flow problems. If you want to be successful in the long term, managing finances is critical, but what can small business owners do to keep the money flowing?
In this article, we’ll discuss five of the biggest cash flow challenges and give you actionable steps to combat that issue and keep your business on an excellent financial footing.
Delayed Payments and Outstanding Receivables
Late customer payments can send a small business’s cash flow into a nosedive. Excessive receivables leave companies pathetically short of cash and prevent them from honoring their financial obligations. It’s especially true for service-based businesses or companies that must send invoices long after providing their goods and services.
To solve this problem, business owners must initiate invoicing and collect their invoices. The faster you bill, the faster they will pay you. Additionally, revisiting your payment terms can help prompt faster payments. You can request a deposit upfront or reward early payments with some incentives.
If your clients habitually refuse to pay on time, suggest instalment billing, where you break payments into weekly or biweekly amounts. Doing so will improve cash flow and decrease the possibility of late payments.
Sometimes, delving into financing options can offer some respite from the cash flow pinch created by delayed payments. For example, pawning valuable items may provide quick access to cash, but it’s essential to understand what does it mean to pawn something before proceeding or, instead, consider taking a business credit line. Ideally, credit lines are set up when you’re on solid financial footing. If not, check with your financial advisor for other options.
Overstocking and Seasonal Demand Fluctuations
Balancing stock levels is tricky, and many business owners get it wrong. Overstocking ties up cash in unsold inventory, and during a season of change in demand, a business doesn’t have the flexibility to shift its on-hand inventory to other lines if it isn’t prepared for such changes. When money is locked up in too much excess stock, it can no longer be used to meet daily expenses, for investing, or for emergencies.
One way to solve this problem is to introduce an inventory management system that will accurately signal sales and project demand. Keeping products in stock for the shortest time helps prevent your capital from getting tied up in unsold products.
The second clever thing is to prepare for seasonal changes by having an informed approach to buying. If your business has seasonal dips in sales, that’s okay – just make sure you consider these when you adjust your inventory and cash flow projections. As such, you won’t get caught in the crossfire of slow periods and find yourself scrambling for things to do in a high-demand season.
Inaccurate Forecasting and Bookkeeping Practices
Managing cash flow becomes more complex over time. Unfortunately, many small businesses don’t adapt their bookkeeping practices to accommodate this growth. Poor cash flow management could result from inaccurate financial forecasting or sloppy bookkeeping.
No business can plan for growth or not fall short financially without a clear picture of how much money is coming in or going out. One solution is to outsource your bookkeeping or hire a professional accountant. These experts can help you make informed decisions.
More importantly, they can review the historical cash flow patterns and help you identify if inconsistencies or mistakes are overlooked. Forecasting is most accurate when using accurate financial data, forming the basis for effectively managing cash flow. That means you’ll be better prepared for upcoming expenses or slow times going forward and no surprises later.
Declining Sales or Low-Profit Margins
Declining sales or shrinking profit margins can be a significant cash flow headache for many small business owners. A slim margin means minimal cash flows into the business if the price of the goods or services does not recoup the operation costs. And if sales teams give up more discounts or deals to close them, profits will erode further, making cash flow even more challenging.
The first step in tackling this challenge is creating a clear pricing strategy. Focus on balancing pricing with profitability. Consistently weighing in on your pricing model can allow you to readjust rates to ensure you retain your profit margins without turning customers off.
Furthermore, examining what products or services aren’t performing would be best. Eliminating those with poor bottom lines can relieve some of the stress on the capital budget and allow resources to concentrate on middle and above-the-line areas. Finally, short-term survival plans like running tighter budgets and temporarily adjusting pricing help your business survive until you come up with long-term solutions.
Insufficient Cash Reserves
Lacking adequate cash reserves is one of the most common cash flow problems. The issue usually arises from businesses not having enough capital to weather a downturn or unexpected expense. At any moment, a business might find itself short on cash to sustain its smooth operations, which can happen after a sudden slump in sales, an unexpected repair to an item, or a lag in client payments.
This is why small businesses must create financial buffering. The first thing to do is to forecast your cash flow. Here, you can estimate future sales, determine when payments are expected, and track fixed and variable expenses. This method delineates the minimum cash reserve that must be held.
It’s hard to come up with thousands of dollars off the top of your paycheck right away — especially if it’s a significant portion of your monthly expenses — but having a precise goal makes it easier to save a little bit more each month and modify your spending. Also, cutting unnecessary costs, even small amounts, will help build your reserves.
This emergency fund will gradually become a lifesaver, helping you avoid trouble when times get tricky if you can only just get by.
Final Words
Running a small business means it comes with inevitable cash flow challenges, but with careful planning and proactive management, these can be minimised. The trick is to be aware of potential cash flow pitfalls and act before they become formidable issues. Having a good understanding of how you handle your cash flow can keep it strong, and, in turn, your business will be successful and still here in the future.
If you’re unsure how to address specific cash flow challenges, talking to a professional can help tailor solutions to your business needs.