Ensuring Your Company Has a Strong Cashflow for the Year Ahead…

The fact is that one of the earliest lessons I learned in business was that balance sheets and income statements are fiction, cashflow is reality.’ – Chris Chocola 

Cash is the life blood of any business. Without cash your business cannot survive. In fact, very profitable businesses can fail because of poor cashflow. 

When a business is growing fast, often in start-up mode, it needs ‘working capital’ to fund that growth.  That’s why it’s called working capital, because that spare capital has to work hard, because the business is having to pay for stock, fund payroll costs and overheads and buy new assets before it gets to bank the cash from selling its goods or services.  

The fact that the business is making a profit on paper, and yet cash is tight, is precisely why every business owner needs to understand their cashflow drivers.  These are the business processes that affect your cashflow.  Processes like how you order stock and pay for it, how you bill for your services and how you make sure you get paid by your customers, just to name a few. 

By looking for the underlying causes of your poor cashflow and making some changes to your processes, you are not just treating the symptoms, you are treating the cause.  This won’t just help your cashflow, it will build a much better and more valuable business.  It will also reduce your frustration and stress levels enormously.  

Profit does not equal cash! 

A profitable business can go out of business because it’s starved of cash.

A business making a loss can survive because it has access to funds from investors or financiers.  

Profit = Total sales value less the cost of stock and other expenses. 

Cash = All cash inflows less all cash outflows. 

What the calculation of profit does not show is how much of that profit needs to be retained to allow the business to grow.  In other words, to invest in more stock, materials, plant and equipment.  

Available cash, on the other hand, is affected by how long our customers take to pay us, how long it takes us to pay our suppliers, whether we are growing as a business, what we are drawing out of the business in personal spending, our loan repayments, our tax payments and the new assets we need to buy from time to time.  

The link between profit and cash is simply timing – we call this the Working Capital Cycle. 

Service Provider 

 

Retailer/Manufacturer

If you’re a service provider, your Working Capital Cycle is this:

You sell services to a customer.  Once you’ve invoiced your customer, that amount increases your accounts receivable total, that is, what your customers owe you.  But that money isn’t in the bank yet, it’s sitting in your accounts receivable ledger until you get paid.  And that’s the cycle. 

If you’re a manufacturer, the cycle works like this:

To make your goods, you purchase stock and materials.  You may have to pay some suppliers immediately, others may allow you to pay on the 20th of the following month.  You manufacture your goods and at any point in time you will carry work in progress or stock of unfinished goods.  Once you receive an order for goods from a customer you make a sale.  You invoice that customer and the amount of that invoice is now in your accounts receivable ledger.  You now have to wait for your customer to pay you. 

So, you can see that it takes some time, depending on your type of business, to convert whatever it is you make, or whatever the service is you provide, into cash.   

Keeping the cash flowing – five principles  

  1. Without cash your business will not survive. 
  2. You need to understand your key cashflow drivers. 
  3. Managing cashflow is all about your business processes. 
  4. Treating the symptoms of poor cashflow without fixing the underlying causes is time consuming and frustrating. 
  5. You need to be prepared to make process changes. 

 

Your plan for cashflow improvement  

  1. Prepare a Cashflow Forecast and make this part of your annual business planning. This is what our most successful clients do. The first time you prepare one it can be difficult.  You’re talking about money, facing cashflow challenges.  That’s important – they won’t go away.  When you have your forecast in place, however, there’s a sense of peace and relief that comes with that.  You can share your Cashflow Forecast with your accountant to help build better communication and a stronger relationship.  You’ll be able to predict those months when there is more cash going out than coming in, for example, when it’s tax time.  You’ll also know in advance about any seasonal fluctuations in your business.  You won’t be flying blind anymore on the issue of cashflow. 
  2. Whatever your accounting or reporting software, your forecast needs to be incorporated into or built in that software so that you can report actual results against forecast, every month.  This enables you to recognise where you are against your target.  You’ll learn how to become aware and comfortable with your cashflow cycles and where you can improve them. 
  3. Having a Cashflow Forecast in place is one thing.  Using that knowledge to change how your cash flows is another.  To do that, you have to understand your Working Capital Cycle and improve the business processes that can shorten it.  And you have to set some goals. 
  4. Having someone to encourage, support and even nag you as you work on your business is the fastest and easiest way to get ahead in business.  That person should be independent, not your spouse.  That’s soft coaching.  Who better than your accountant to help with you that?  

 

If you are struggling to maintain and plan your businesses cash-flow and could do with our support, feel free to contact Mehul Thaker on 0203 146 1615 or mehul.thaker@raffingers.co.uk