Cash Flow Is King
Striking the right balance for your cash flow – both inflow and outflow – is just as important as making a profit when it comes to ensuring your business growth is sustainable.
In the simplest terms, when your revenue exceeds your expenses in a given period, you’ve made a profit. But if all of your revenue is tied up in uncollected debts while you’re haemorrhaging cash to purchase inventory and assets, and pay wages and other expenses, your business won’t stay solvent for long.
The rate at which money comes in and out of your business can be the difference between whether or not it can stay afloat. So it makes sound business sense to adopt three important cash flow strategies:
- Improve your money inflows
- Reduce or slow down your money outflows
- Prepare a realistic cash flow forecast
Tips for improving money inflows
Here are some ideas you can adopt to increase the speed at which you can turn revenue into money in the bank:
- Negotiate shorter payment terms with debtors
- Request upfront deposits before supplying goods or services
- Issue invoices promptly (and progressively for longer-term contracts)
- Offer discounts for early payment
- Follow up systematically on overdue accounts
- Implement penalties (such as administration fees or interest charges) for late payment
- Offload outdated or slow-moving inventory at reduced prices
Tips for reducing and slowing money outflows
On the other side of your cash flow statement, you will need to adopt some of these approaches in order to keep your money in the bank for longer:
- Negotiate longer payment terms with creditors
- Lease assets instead of purchasing upfront
- Aim for fast inventory turnover and ‘just in time’ ordering
- Take a hard look at your expenses to assess where cuts can be made
Preparing a realistic cash flow forecast
Ultimately, a pragmatic cash flow forecast is the most practical tool for managing your cash flow and making sure your business growth is sustainable. The main resources for producing a realistic cash flow forecast are:
- A budget for the coming year, detailing anticipated revenue and expenses by month
- Cash flow history by month (inflows and outflows from previous years’ bank statements) compared with your revenue and expenses by month (from previous years’ Profit and Loss statements). This will allow you to map the time elapsing between turning revenue into cash inflows and expenses into cash outflows
- Knowledge about when annual or quarterly payments are due, creating peaks and troughs in cash outflow
- Familiarity with the effects of seasonality, such as high and low sales periods
- Awareness of any upcoming unusual events, for example moving to different premises, or major assets nearing end of life
By using this information, it should be possible to create a most likely scenario for your cash flow in the coming 12 months.
Cash flow forecasting example: Understanding the difference between profit and cash flow
| CASH FLOW ASSUMPTIONS | REVENUE: 30 DAYS: 50% COLLECTED 60 DAYS: 50% COLLECTED | COST OF SALES: 30 DAYS: PAID 100% | OVERHEADS: PAID IN THE MONTH (IE. WAGES) |
|||
|---|---|---|---|---|---|---|
| MONTH | 1 | 2 | 3 | 4 | 5 | 6 |
PROFIT | ||||||
SALES | $100,000 | $110,000 | $120,000 | $130,000 | $140,000 | $150,000 |
COST OF SALES | $75,000 | $82,500 | $90,000 | $97,500 | $105,000 | $112,500 |
GROSS PROFIT | $25,000 | $27,500 | $30,000 | $32,500 | $35,000 | $37,500 |
OVERHEADS | $20,000 | $20,000 | $20,000 | $20,000 | $20,000 | $20,000 |
NET PROFIT | $5,000 | $7,500 | $10,000 | $12,500 | $15,000 | $17,500 |
CUMULATIVE NET PROFIT | $5,000 | $12,500 | $22,500 | $35,000 | $50,000 | $67,500 |
CASH FLOW | ||||||
SALES | $0 | $50,000 | $105,000 | $115,000 | $125,000 | $135,000 |
COST OF SALES | $0 | $75,000 | $82,500 | $90,000 | $97,500 | $105,000 |
OVERHEADS | $20,000 | $20,000 | $20,000 | $20,000 | $20,000 | $20,000 |
NET CASH MOVEMENT | ($20,000) | ($45,000) | $2,500 | $5,000 | $7,500 | $10,000 |
NET CASH POSITION | ($20,000) | ($65,000) | ($62,500) | ($57,500) | ($50,000) | ($40,000) |
Making use of your cash flow forecast
Bear in mind that, when preparing a cash flow forecast, it’s always best to be realistic rather than overly optimistic about what is likely to happen. The result should be a reliable cash flow forecast which is able to deliver valuable insights into periods when money may be tight, or when surplus cash will be available for business expansion, so that you can plan accordingly.
It will give you time, for example, to plan a finance application or a capital injection from business stakeholders, or to negotiate a delayed payment with a major creditor or the ATO. Lenders, investors and creditors are more likely to react favourably when they can see that you are making strategic forward plans and informed long-term decisions, rather than reacting in a rush to circumstances that took you by surprise.
A solid and believable cash flow forecast puts you in control of your business finances. It will allow you to not only sustain your business but also to unlock its future potential when you have the cash on hand to put your plans into action.
Professional help with cash flow forecasting
Accountants and business advisors can help you to prepare an honest and realistic cash flow forecast that recognises the crucial differences between the revenue and expenses of your P&L or budget, and the actual cash flowing into and out of your bank account. Expert acumen drills down into the detail, identifies the impact of delayed payments, seasonal variations and upcoming events, and stays focused on future reality rather than merely replicating the past.
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Make a time for a chat with a Bentleys business advisor. We can help you to get where you want to be.
Disclaimer: This information is general in nature and should not be relied on as advice. It does not take into account the objectives, financial situation or needs of any particular person. You need to consider your financial situation and needs and seek professional advice before making any decisions based on this information.
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