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Whether your business is growing or your sales are declining, an effective cash flow management strategy is crucial for maintaining working capital.
If you’re a small to mid-sized business owner, you’ve likely made some changes in the last few years. Perhaps the pandemic prompted you to pivot to a more in-demand offering to maintain sales or your business grew significantly.
It’s also possible that with continued supply chain disruptions and rising inflation, you are anticipating or want to prepare for a significant change in the coming months or years. Regardless of how you navigate an evolving market, one thing is certain: your business relies on a healthy cash flow to operate, plan for emergencies and grow.
Cash flow problems happen when you spend money faster than you’re getting paid (learn more about signs that you have a cash flow problem here). If your business is changing or you’re experiencing the following, it’s probably time to re-evaluate your cash flow management strategy:
Sales are increasing but outstanding invoices are piling up.
Sales and business growth are slowing down.
Your expenses are getting higher.
Interest rates are increasing.
Customers are asking for longer invoice payment terms.
Your business decisions aren’t informed by financial data.
A smart cash flow management strategy will help you maintain working capital, improve operational efficiency and give your business stability in uncertain times. Here are some top tips to improve your cash flow management strategy.
Cash flow is the measure of money going in and out of your business. While it’s a good practice to monitor your payables and receivables frequently, forecasting your cash flow will also help you predict cash inflows and outflows over a period of days, weeks, months or quarters.
This allows your business to predict cash flow shortages and make more informed, proactive financial decisions based on reliable data. It also enables you to pay bills on time, plan growth strategies, maximize your surpluses and maintain good standing with shareholders. If you’re not confident in your accounting skills, get your accountant to build and review the forecast for accuracy. If you want to create it yourself, here’s how.
Include the following metrics in your cash flow forecast or management strategy to give yourself a quick snapshot of how your cash flow is performing:
Operating cash flow: shows you whether you’re making enough money from your operations to pay your bills.
Cash ratio: measures your business’s liquidity and ability to pay off short-term debts.
Cash conversion cycle (CCC): measures how long it takes your business to turn inventory and other investments into cash flow from sales.
Days sales outstanding (DSO): the number of days, on average, it takes to collect your receivables.
Available working capital: measures the immediate cash you have to cover short-term expenses and invest in growth opportunities.
Free cash flow (FCF): the cash you have left after accounting for capital expenditures — essentially, how much you have to invest in and expand your business.
It’s important to review your forecasts and financial metrics regularly to inform your business decisions. As a best practice, all businesses should forecast and track metrics to monitor cash flow and assess whether their management strategies are working.
Cash flow metrics and forecasting give you a starting point to evaluate your current business operations and expenses. For example, do you have a generous free cash flow? This could indicate an opportunity to make smart investments that will help grow your business. Is your cash conversion cycle too long? It might be time to re-evaluate your sales and marketing strategy to turn products over faster.
The goal of this tip is to take a hard look at your business and assess where adjusting your operations or expenses could improve cash flow. This will be different for every business, but here are some questions to consider:
Where does it make sense to reduce expenses? This could mean negotiating lower prices with your vendors, renting instead of purchasing equipment or contracting instead of hiring staff.
Do you need to get paid faster? Digitizing transactions, renegotiating payment terms or using early payment incentives can all reduce payment periods and increase cash flow.
Which parts of your business need more resources? Evaluate which business investments or changes will give you the best return on investment (ROI).
Are there technologies that can streamline your processes? Research innovations that could make your operations more efficient and support positive cash flow.
Sometimes evaluating where there’s room for improvement is an inefficient process in and of itself. Emerging process mining solutions can help you identify and address inefficient business operations faster and more accurately than manual assessments.
Ideally, your business should have enough working capital set aside to manage cash shortages and other unexpected emergencies. Financial advisors typically recommend having three to six months’ worth of business expenses saved as an emergency buffer.
If you’re struggling with cash flow issues, the tips covered in this article should put you on track for increasing your working capital and building a reserve. However, this isn’t always possible in your cash flow management strategy — especially for small to mid-sized businesses that need additional funds to grow. In this case, securing other forms of financing can serve as a backup plan when cash runs low. The trick is to access these funds proactively, not when you’re already in a crunch.
Cash flow issues could make it hard for your business to qualify for traditional financing solutions such as bank loans. According to C2FO’s 2022 Working Capital Survey, 30% of global financial decision-makers cited poor cash flow as the biggest barrier to securing financing. Thankfully, there are alternative funding solutions for small to mid-sized businesses that may not have the credit history or cash flow surplus to qualify with banks.
For example, digital lending solutions, which use financial data to evaluate a borrower’s risk profile, are often more flexible, cost-effective and efficient than traditional financing. There are also emerging credit score alternatives that use a similar approach to assess borrower risk. This is valuable for early-stage businesses that need funds but don’t have a credit history sufficient for traditional lenders.
Increasing profits and cutting expenses might be top of mind when you’re evaluating your cash flow management strategy. However, your invoices also offer a valuable opportunity to increase cash flow. If you can get paid sooner, your business is less at risk of a cash shortfall.
Simple steps, such as renegotiating shorter terms with your customers, sending invoices sooner and reviewing them carefully for errors, can promote faster payment. You can also use early payment incentives, such as C2FO’s Early Payment program, as part of your cash flow management strategy. Early payment programs give customers a small discount in exchange for paying earlier than your agreed terms.
Early payment incentives allow you to increase cash flow without taking on debt. They also give you more control over when you get paid, so you can improve financial metrics such as CCC and DSO. Invoice discounts are usually more cost-effective than other working capital solutions such as business loans or lines of credit.
Some emerging early payment products also offer customers incentives with added perks. For example, C2FO’s CashFlow+™ Card gives you early payment without the expense of a discount, as well as 1% cash back on business purchases.
In 2019, almost a third of small business owners facing cash flow issues were unable to pay vendors, loans, employees or themselves. If you want to avoid this situation, an effective cash flow management strategy is a must — even when your sales are climbing. Tracking financial metrics and forecasting your cash flow should be a part of any management strategy, along with continuously streamlining business processes and saving an emergency buffer when possible.
Whether your business is growing or shrinking, minimizing how long it takes to receive customer invoice payments could be an effective part of your strategy. It can also make a huge difference in your working capital and help you take control of your cash flow.
In this article:
If funding payroll for your small business is a stretch, you’re not alone. Here’s how to cover payroll amid rising costs and lengthy invoice payment terms.
Reducing DSO can improve cash flow, shorten your cash conversion cycle and boost your bottom line. Learn how to reduce DSO and build a healthy balance sheet.
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