You have worked hard to get to where you are now. You have invested your time, energy and financial resources into starting and establishing your small business. Now is not the time to let your guard down or take things for granted; you need to remain vigilant. Cash flow management is an essential aspect of running any business — especially a small business. It is important to understand cash flow management so that you can make informed decisions regarding how best to manage and allocate funds throughout the year. The tips in this article will help you better understand cash flow management and how it applies to your small business.
Cash flow management is the process of managing the flow of cash into and out of your business to enable you to meet your obligations and maximize your profits. Getting a handle on cash flow management is important because it helps you better prepare for and navigate through periods of low cash flow. One of the most important aspects of cash flow management is forecasting and tracking your cash flows to anticipate dips in cash.
There are three main types of cash flows in a business:
Operating cash flow refers to the cash that is generated from your day-to-day business activities. This could include revenue from selling goods or services, interest earned from loans, and income from renting out property. Operating cash flow also includes cost-cutting measures such as reduced electricity usage or reduced water usage.
Investment cash flow refers to the cash that is used to pay for long-term assets such as real estate or machinery. This type of cash flow is often for purchases that occur over a period of months or years.
Financing cash flow refers to the cash that is needed to pay off short-term or long-term debt. Short-term debt such as a business loan or an outstanding bill is often due within one year. Long-term debt typically refers to debt that is due in more than one year.
Before you can adequately manage your cash flow, you first need to be aware of where your cash is coming from and where it is going. You can do this by keeping a cash flow statement.
A cash flow statement is a tool that shows the cash flow from operations of your business over a certain period of time. By tracking your cash flows over time, you can better anticipate future cash flows and better prepare for fluctuations in your business.
Having a consistent process for keeping track of your cash flows will help you become more mindful of how your business is using money. Some small businesses use accounting software, such as QuickBooks or Xero to keep track of their cash flows.
Others keep track of their cash flows manually using a spreadsheet. Whichever method you choose, make sure to track the source of each cash flow, including any notes or details of why the money is being spent. This way, if you need to bring in an external auditor, you will have all of the information they need.
As you track your cash flows, pay attention to the following critical business metrics, which can be helpful indicators of your business’s health:
Average collection period. The average collection period represents the amount of time it takes for customers to pay their bills. You can calculate this metric by adding up the amount of all of your accounts payable and dividing by the number of days in the period.
Net operating cash flow. Net operating cash flow is the amount of money that is left over after all expenses have been accounted for.
Inventory turnover. This metric represents how often your inventory is turning over, or being sold. If inventory is not turning over, this could indicate that customers are not buying the items you have in stock.
One of the easiest ways to protect your cash flow is to set aside a buffer for unforeseen events. This could include setting aside money for potential increases in expenses or for repairs or maintenance for your property. In 2023, with inflation set to continue to roar across the world, having some extra money aside for increased costs is a good idea.
Depending on the industry that your business operates in, you may need to set aside additional funds for insurance premiums. Be sure to consult with your insurance provider to determine how much coverage you need and how much you can expect to pay in premiums.
You may also want to set aside a small amount of money each month to cover unexpected expenses, such as car repairs, home repairs, and medical expenses. This can help protect your cash flow and enable you to better navigate unexpected events without having to rely on credit.
Another way to protect your cash flow is to try out marketing strategies early. For example, if you plan on hosting a grand opening event or hosting a special promotion during the holiday season, start marketing those events as early as possible.
This will give you more time to plan the event and receive payments before those dates arrive.
Likewise, if you plan on hiring a marketing firm to conduct a special campaign or event, try to get payment upfront. This can help protect your cash flow in case the firm does not complete the job.
If you are planning on leasing or purchasing new equipment for your business, try to do so as early as possible in the year. This will give you more time to save for the equipment or make payments before taxes are due each year.
Cash flow management is an essential component of running any business. It is important to track your cash flows and forecast potential sources of cash as well as potential uses of cash.
Once you are on the pulse of your cash flow, you can better prepare for fluctuations in your business and protect your cash flow.
If you keep track of your cash flows and remain mindful of your spending, you will be better prepared to navigate through any dips in cash and better protect your business’s cash flow.