What do all successful companies have in common, no matter what their size is? They manage their cash flow effectively.
Cash flow can quickly become a real problem for small businesses. A study found that 61% of small businesses worldwide struggle with cash flow, and almost a third (32%) fail to make payroll or payments towards vendors and loans.
The nature of small-scale operations is that it places greater importance on individual payments. One late payment can have a significant ripple effect on everything that follows, potentially forcing a company to go into debt.
Typical cash flow issues for small businesses include underestimating the startup capital required, overestimating profit margins, slow accounts receivable, and expanding operations too quickly. This is just the tip of the iceberg – there are plenty of other ways you can back yourself into a cash flow crunch.
With that being said, it’s not all doom and gloom. There are plenty of cash flow strategies that can help you ensure you always have the cash to cover your expenses. Check out our list of 5 ways to manage small business cash flow.
1. Simplify incoming payments
The first step of good cash flow management is choosing the appropriate payment methods that will make it easy for your business to get paid. There are multiple ways for your business to receive payments, and they all come with different fees attached to them.
When choosing the right payment method small businesses need to weigh their options and decide what works best for them. For example, do you operate online and only want to accept credit card payments or digital wallet services like PayPal? Are you running a brick-and-mortar store that needs a point of sale for in-person cash and card payments?
Using multiple payment methods and understanding the terms of each of them can complicate your cash flow, but it can also increase it. With a range of options available, you can potentially attract more clients who get to pay using their preferred method.
Things small businesses need to consider when selecting payment options include:
- Business model (online store vs. brick and mortar).
- Fees associated with the payment method.
- How long it will take to receive the funds.
- The usual transaction amount they expect.
- Accounting system/software.
2. Choose an appropriate time frame
When you really look into a business’s cash flow, you’ll realize that it’s all about payment scheduling. Your business can be profitable and still run into trouble if you mess up your payment schedule.
Many bills are monthly, while others can be quarterly, semi-annual, or annual (certain taxes for instance). These payments need to be scheduled and backed up by your cash flow plan. While incoming payments are typically spread across the month, many businesses offer payment plans where large purchases are divided over multiple months in order to bring in more customers.
While it can be easy for small businesses to focus on the “here and now” and only look at their monthly cash flow, there are real benefits in taking a longer-term view. For example, calculating sales and expenses on a yearly basis helps you understand the value of specific clients and learn where the most significant cost centers are.
3. Do your research
While cash is king and getting it upfront is ideal, offering credit is the standard in many industries and has become the barrier to entry for new businesses. Providing goods or services and waiting to be paid has built-in risk. It’s up to specific companies to decide their risk tolerance and how much credit they give customers.
To get a better idea of the risks involved, you have to do your research and learn about potential clients before extending credit to them. While turning down business can be difficult, the client is not worth the hassle if the uncertainty of actually seeing the money is too great.
The first step is to check their credit history. This could be for companies (B2B) or individuals (B2C). For B2B payments, it can be worth digging a little deeper and checking the credit history of crucial individuals within the organization or looking at their operations. Things to look out for are:
- High-value low volume orders: with high-value, low volume orders, all it takes is one delayed payment to severely interrupt their cash flow and potentially create problems for your business.
- Long transaction chains: clients who are part of an extended transaction chain pose a greater accounts receivable risk. The client’s cash flow is dependent on all the companies ahead of them making punctual payments. One late payment earlier in the chain can create a knock-on effect leading to them delaying your payment.
4. Accelerate accounts receivable
In many respects, you can boil down cash flow management to accelerating accounts receivable and delaying accounts payable (see #5). You want to optimize cash flow by getting paid as fast as possible and delaying payments as much as possible. Obviously, other businesses are trying to do the same, which makes us all hypocrites, as we all end up treating our vendors the way we hope our clients won’t treat us. But let’s put that aside for a moment.
How do you accelerate getting paid by your clients? By being proactive, that’s how. Provide fast and accurate invoicing to ensure your clients are aware of outstanding payments as soon as possible. The accounts payable department on their end will need to authorize the payment. Prompt invoicing ensures they are notified about the invoice right away and can immediately start working on repaying it. Nowadays, there are a lot of electronic invoice and payment systems that can alert your client of the amount owing, when payment is due and even process the payment but one of the best ones is the AP automation system. When offering credit, you should provide clear net terms in writing for everyone to understand. The terms and conditions by which you offer credit are critical to effective accounts receivable. They define the tools you have regarding late payment penalties or chasing missed payments.
You can also take advantage of early payment incentives to get money through the door quicker. Sometimes the downside of discounts and smaller profit margins are outweighed by the peace of mind that comes with faster payment.
5. Delay accounts payable
Late payment penalties will cap the maximum delay you can achieve. But there are strategies you can employ to maximize the time you have for accounts payable. These include:
- Select vendors with flexible payment schedules.
- Create a hierarchy of bills with those fundamental to business operations at the top.
- Determine the minimum payments required to prevent significant interest on debt.
- Install an accurate invoice review process for all accounts payable.
- Ask for improved payment terms from long-term vendors.