Why is Positive Cash Flow So Important to a Small Business?

Contributed article in our startup series. Enjoy! – Kimberly

Cash is the lifeblood of any business. To use a medical analogy, think of your business as a heart. The cash flows in via paid invoices (the veins) and the cash flows out to creditors via your ‘arteries’. If you have a blockage in a vein, it starves the heart of oxygen. This is not good. You might limp on for a while, but unless the blockage is cleared, your heart (the business) will stop beating.

Unfortunately, many small business owners don’t pay close enough attention to their cash flow. They are too busy marketing their products and services, schmoozing new clients, and expanding the business to think much about whether existing clients have paid their invoices. It’s only when the cash dries up and they don’t have enough money to pay a creditor that panic sets in

Why Cash Flow Matters

Negative cash flow is the main reason why businesses fail. Statistics continually show that 90% of all businesses fail in the first year. Those that do survive will fail within five years. In the majority of cases, a lack of cash flow is the reason why it all goes wrong.

If there is no cash flowing through the business, you can’t pay your creditors. Of course, it’s not always your fault when the money dries up. Banks sometimes call in a loan or a major supplier goes bust and leaves you high and dry. You can’t prevent this type of unfortunate event from happening, but you can put a contingency plan in place.

Cash Flow Forecasting

Cash flow forecasts are a very useful tool for any business. Unlike a business plan, a cash flow forecast outlines things from an accounting perspective. Think about when payments are due, who your creditors are, and what money you are owed.

Always make sure you have a savings pot to cushion the business against unexpected cash flow problems, for example a late-paying client or an unexpected bill. This could make the difference between success and failure.

Business Financing

Cash flow is critical, but there will be times when you need extra working capital to buy equipment or fund a large order. You have many small business financing options at your disposal, including business credit cards, loans, peer to peer lending, crowdfunding and merchant cash advances, but it’s important to consider the merits of each before you make a decision.

For short-term loans, a credit card should do the trick, but if you need the money for business expansion, consider a small business loan or peer to peer lending. If in doubt, talk over the options with your financial advisors, as some types of funding may come with strings attached. For example, money raised via crowdfunding may mean you have to give up some shares in your company.

Good Bookkeeping

Good bookkeeping skills will help prevent negative cash flow issues. It’s important to maintain accurate accounts, and not just from a cash flow perspective, either. If you don’t keep a close eye on your accounts, you could end up forgetting to pay a creditor or missing a tax payment deadline; neither has a good outcome.

Credit Control Procedures

It’s important to have good credit control procedures in place to prevent unpaid invoices going unnoticed and the business being out of pocket as a result.

  • If you use accounting software, run weekly outstanding debtor reports to identify any problem clients. Otherwise, make a note of when invoices are due and don’t hesitate to chase them up.
  • Send out an unpaid invoice reminder as soon as an invoice becomes overdue. Follow this up with a polite telephone call to check whether the non-payment is an oversight or the business has cash flow problems.
  • Remind clients that you will be charging a late payment fee, plus interest, on any outstanding debts.

Chasing Problem Debtors

Late payments are sometimes caused by an oversight. The invoice may have been delivered to the wrong person, or not arrived at all. Problems of this nature can usually be prevented by sending an invoice via email as well as in the post. However, if a client is still not paying and they don’t have a legitimate reason why, or they are ignoring your letters, emails and telephone calls, it’s time to take things to the next level.

Don’t wait for negative cash flow to bite you on the behind. Stay in control of your finances and deal with issues the moment they arise.

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