You may have heard the saying, “Cash is king.” It’s often used in reference to personal finance, but cash is essential for small businesses, too. Building a reserve will help you to finance your business’ growing needs, and also acts as a cushion for unexpected expenses. Without adequate cash on hand, you may find yourself in a crunch when it comes to paying suppliers, restocking on inventory, fulfilling a large order or even taking on new customers. Instead, position yourself one step ahead. Align yourself with these best practices to ensure your small business stays on top of cash flow.
The basics of understanding your cash flow
Before we dive into strategies for managing cash flow, it’s important to understand the cash flow basics. In simplest terms, cash flow involves how funds move in and out of your business. It can be measured weekly, month-to-month or even quarterly, depending on your business type and size.
Positive cash flow takes place when the incoming cash from sales and receivables is greater than the amount outgoing into expenses, salaries and other payables. A negative cash flow is essentially the other way around: when your outgoing cash exceeds the amount of your incoming cash.
Getting a grip on your cash flow involves more than profits and losses. Even the most profitable businesses could be short on cash. Your first step towards better control involves understanding how much working capital your business needs. To do this, you have to consider the inventory levels you need to maintain, recurring invoice amounts and the life cycle of your product or service. Anticipating how much capital you need, and when, plays a big part in staying in control of your cash.
Speed up your receivables process
No business owner likes late payments. While you can’t always control late payments, sending out clear and detailed invoices as they occur (instead of monthly) can go a long way to getting your cash quicker.
Do: Implement progressive invoicing. Depending on your industry, it might take weeks or months to complete a job. In this case, waiting until the end to submit an invoice can cause major cash flow challenges. Instead, consider a progressive invoicing plan. This ensures you get money throughout the process by asking your customer for a deposit upfront, in addition to regular payments at mutually agreed-upon project milestones. The added benefit is it reduces your risk exposure to customers not paying.
Don’t: Forget to follow up. Just because you sent out your invoices doesn’t mean the money will always magically appear. Unfortunately, overdue and neglected payments will require follow up. Schedule one or two days a month to follow up on invoices. This is a simple way to ensure you stay on top of your receivables to prevent cash losses.
Recover funds from your assets
Does your business own equipment that is no longer used? Or, have you replaced equipment and neglected to get rid of the old pieces? Selling these items can generate cash quickly and free up capital that can be better allocated elsewhere in the business.
Do: Sell inventory or equipment that’s obsolete. If you don’t have plans for these items over the next 12 months, put them up for sale. You’ll feel a lot freer without them weighing you down, and you’ll likely gain extra physical space onsite.
Don’t: Neglect to report the sale. The sale of these items could result in a taxable gain if the book value is equal or less than its salvage value. This should be reported on your taxes. If your items are sold below book value, the loss can be used to offset other company profits.
Maintain good books year round
Great bookkeeping practices are key to keeping your small business thriving. Ill-managed finances can cause a host of problems, including poor cash flow.
Do: Hire a professional accountant or bookkeeper. As a small-business owner, you’re almost certainly too busy to moonlight as an accountant. Couple that with the fact that you may not be an accounting aficionado, and you’ll see why it makes the most sense to hire a professional to manage your books year round—not just during tax season. While they’re at it, they may be able to suggest business improvements and areas of cost savings, which will can amplify your cash on hand.
Don’t: Turn a blind eye to your books. Just because you’ve outsourced your bookkeeping doesn’t mean you can completely turn a blind eye to your balance sheets. Schedule time to regularly review your reports and understand what’s happening (and why). Ask questions of your accountant/bookkeeper, and ensure you understand the basics of your business’ fiscal health.
Separate personal and business finances
Monitoring your business’ performance and anticipating changes can help you to understand—and even forecast—your cash flow. It can be messy to monitor and difficult to anticipate changes when your personal transactions are mixed in.
Do: Separate your banking. Creating a business chequing account and applying for a business credit card are your first steps. Deposit income and pay your business expenses from these accounts only so that your business’ cash remains in one central location. Some small-business owners may even keep their finances separated at two different banking institutions so there’s absolutely no confusion among accounts.
Don’t: Neglect to pay your own salary. Each month, write yourself a cheque or send yourself an e-transfer to pay your own salary. This will help you stay on top of cash flow and budget wages among all your staff (yourself included). Make deposits from your business account to your personal account for your salary only, and ensure the paid amount is consistent from month to month. Waiting until year end to pay yourself, or only deducting a salary when you need it, is a poor practice that will result in dramatic ebbs and flows in your business’ cash supply.
Managing your cash flow and building an adequate reserve will strengthen your business’ overall health. If you’re not already ahead of the curve, you may have to endure a few set-backs before you have a cushion of cash. But it’s well worth it; in the end you’ll have positioned your business on a path towards success.