Cash flow is critical for small businesses, much as oxygen is for our bodies. Sir Richard Branson states that “Never take your eyes off, since it is the lifeblood of business.” You’d think small business owners would never forget such good advice from an insightful and seasoned doyenne of the global business world. Yet, when we look at it, it seems as if many people do not comprehend the notion of cash flow – or the effect they might have on it.
Cash flow issues for small businesses may be so severe that they actually impair an owner’s capacity to maximise the value of their business. However, gaining a better grasp of this age-old issue may result in significant changes and bring those business goals much closer.
So, how can we identify a cash flow crisis? In general, it implies that you continually spend more money than you earn. As an example, suppose you got $6,500 in cash last month but spent $7,000 – this results in a $500 negative cash flow. Now, if it occurs once or twice due to unanticipated circumstances, you can often work around it, but if it occurs frequently, you must address it for the good of your business.
The good news is that there are several strategies for avoiding negative cash flow. We’ve developed a list of the most probable causes of insufficient cash flow and how to address them.
Why is cash flow essential to the success of a small business?
Cash flow is critical for a small business because it demonstrates how much money is really going in and out of the business, not how much money is pending collection from accounts receivable.
When your cash flow is positive, this indicates that you are generating more than you are spending, and that you have enough money on hand to fund payroll, equipment purchases and expansions, loan repayments, and other critical business expenses. If your cash flow is negative, you could find yourself unable to pay staff and suppliers, meet monthly rent, or pay any other day-to-day business expenses.
For these and other reasons, cash flow strategies should always take priority in your business planning. If such planning is done effectively, you’ll know precisely when money will be placed into or taken from your bank account each month. With this data, you’ll be able to determine when you truly have enough cash on hand to meet your bills.
Consider this: Even if you have billed a customer for a significant sum of money, you cannot utilise those funds until you get it, and cash flow tactics assist you in determining when that will occur. Correct accounting standards are a vital part of your business model that may aid in cashflow management.
Profitability vs. Cashflow
In comparison, profit is the money that remains in your business after all expenses have been subtracted.
Profits are classified into two broad categories:
- Gross profit – The profit earned after deducting all expenditures directly related to the sale of your products and services (inventory, cost of goods sold)
- Net profit – The profit earned after deducting all other operating expenses. This includes taxes, rent, wages, and utilities, among other things.
It is critical to grasp the difference between these two terms and which one applies to your particular scenario. Whenever a business makes a profit on a monthly basis, but the earnings are held in assets or accounts receivable, the money is inaccessible for pay or rent, leading to negative cash flows.
It is feasible for your business to earn a profit while being cash strapped. How is this possible? Profit is an accounting term, while cash, as previously stated, is the balance in the business checking account. Profit does not cover all of one’s expenses. You may have assets such as accounts receivable (money owed to you by clients), but if you are unable to claim what is due, you will lack cash.
If you’re puzzled by the complexity of cash flow, begin educating yourself and preparing to make the required adjustments to maximise the value of your business. The first stage is to quantify and predict your cash flow. Then you can ensure that this is checked on a regular basis and include ideas to enhance the strategy.
