The importance of cash flow management

“Turnover is vanity, profit is sanity, but cash is king”

The above is an adage that most in business are familiar with, but what is the sustenance behind this phrase that is fundamental for a business to understand?

Statistics suggest c80% of business failures are due to poor cash flow management, rising to as high as 90% for small businesses. As such, having visibility on cash flow and forecasting reliably is vital for success, particularly in the current economic climate.

Large businesses will be equipped to regularly prepare and update a cashflow forecast and are likely to do so in a statutory format – in line with their regulatory year-end requirements. For a smaller business, where there is no regulatory requirement, preparing a cashflow may be unfamiliar territory. However, there is no requirement for this to be done in a statutory format, and it is best to prepare and manage a cash flow forecast in a way that you understand.

A useful starting point is mapping your weekly/monthly receipts and payments, tracking when cash is expected to be received, and when payments are due to be made. This doesn’t need to be to the penny; depending on cash headroom of the business, the value of receipts/payments included should of that which may have a material impact on the cash position. This exercise can highlight where cash headroom becomes thin and help you understand your underlying cash cycle. Understanding payment and cash collection cycles can identify points of concern – particularly if there is a risk arising from seasonality of trade.

Credit control can make or break a business. Completing and billing a job is meaningless if the cash isn’t collected. Whilst there may be some consideration for large, long-standing customers who pay late (but you are sure will pay!), debts should be collected when they are due. If customers have overdue outstanding invoices, you, or a member of your team, should be chasing them. Doing this helps to mould customer behaviour, increasing the likelihood that they will pay on time in the future. It can also identify if there are any customers that should be placed on hold if payment is not likely to be received, enabling focus to be given to customers who are paying on time.

Negotiation of payment terms with both customers and suppliers can strengthen the cash flow of the company. If supplier payment terms are shorter than customers, the business requires enough cash to forgo this deficit until the cash is collected. Therefore, if supplier payment terms can be brought in line with customer payment terms, if not made longer than customer payments, this will strengthen the cash position of the business. Additionally, if possible, asking customers to pay deposits locks in part of the payment ahead of work being completed, further reducing the liquidity risk.

Having an additional facility available, such as an overdraft or rolling facility can be an effective safety net to ensure your business has funds readily available in case of unexpected expenses or issues with cash collection. Whilst this may come with a small facility cost, it is better to negotiate this when you are not in financial stress: then, should it be needed whilst you are building your cash reserves, the option is there.

Timing your payroll cycle can protect the business from undue stress on the cash requirements. Payroll is often one of the largest monthly costs for a business, as well as being one of the more straight forward to forecast and control. Identifying when in the month (or week) the company has significant cash reserves to cover the payroll, and scheduling the regular payments for these dates, avoids undue stress.

If you’d like to talk to one of our advisors about cash flow management, particularly considering the current economic pressures, then get in contact with a member of our team and we would be happy to discuss this with you.