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6 Tips to Understand Cash Flow

 

Tips to Understand Cash Flow
 

As reported in a U.S. Bank study, a whopping 82% of businesses fail, directly or indirectly, because they suck, big time, at cash management.

There are ways to avoid having your business go down the drain. But you have to wake up and smell the roses, so to speak. We have created 6 tips to help you understand cash flow and how to manage it.

1. Cash Flow and Profit are Not the Same

It is important to understand that Profit is an accounting term not to be confused with Cash Flow. Your business can make an accounting profit even though you do not have enough cash coming in the door.

2. Understanding Cash Flow can make your head spin at times.

For example, you can go out and make a sale, but this does not mean the money is in the bank because you gave credit to the customer.

Or you can go out and make a purchase, and while it is an expense, it does not mean that you have actually paid for it yet because the supplier gave you credit. That is one of the differences between Cash Flow and Profit.

3. Beware of Growth.

One of the biggest cash gobblers can be growth and if you are not careful it can destroy you.

The quote by Charles Dickens reads, “It was the best of times, it was the worst of times.”

Many companies large and small have faced this dilemma when they grew so quickly, they doubled or even tripled sales, and went down the tubes because they did not have the cash to fund the growth.

What a nightmare that would be.

You are so excited with the sales but then so distraught because you cannot fund the growth. This can happen to anyone who is not careful. You may be a one-person business or a multi employee operation, it does not matter.

4. Beware Making Sales on Credit.

In a perfect world you would like to think that when you sell something, you can get paid for it in a reasonable amount of time.

In a retail or online environment, you can get payment when you make the sale, but if you are selling products or services in the business to business (B2B) world, the story can be much different.

Payment in the B2B world can take months to happen if you don’t manage it well.

You might get placed between a rock and a hard place as you do not want to drop them as they are good repeat customers, but you always struggle to get them to pay on time. (Extra tip: If you must continually chase payment, they are not good customers!)

5. Inventory Gobbler.

Beware of the inventory gobbler as it will gobble up your cash in a heartbeat. Unfortunately, many businesses must have inventory, whether you create it yourself or purchase it from another source. And suppliers want their money.

Here is a saying that you can count on; “Each dollar of inventory on your shelf represents every dollar you do not have in CASH.”

This saying can also be attributed to your “Accounts Receivable”.

Every dollar tied up in receivables is a dollar less of CASH in your bank.

6. The Three Heartbeats to Monitor.

There are three “heartbeats” or metrics that you need to pay close attention to every month, and they are ‘Money In Days’, ‘Money Out Days’ and ‘Stagnant Days’.

The ‘Money In Days’ (or ‘Accounts Receivable Days’ as it is also known) tracks the number of days it actually takes you to get paid. Yes, and when I say paid, I mean the payment is in your bank account. Then there is the ‘Money Out Days” (also known as ‘Accounts Payable Days’) that tracks how many days you take to pay your suppliers.

‘Stagnant Days’ represent the number of days that a product sits on your inventory shelf tying you your capital and hurting your cash flow at the same time.

Use these tips to get a better understanding of the nature of cash flow and learn to manage it better.

 

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