A business is only as healthy as its cash flow. There are times when a business might suffer from a cash flow that is not good. This happens when new equipment is purchased or if there was a catastrophic event (eg: a fire in the building or factory) and the company had to close for a period of time. However, if a business is constantly struggling with its bottom line – cash in the bank, this could create long-term problems from which it might not recover. The end result here is closing down. This is not a pleasant situation to be in.
Expenses Exceed Income
It is not unusual for a business to operate at a loss for the first couple of years. Costs of starting a business normally exceed profits. Basically, what is coming into the bank is lower that what is being paid out of it. However, if the business is more than three years old and it is still operating at a loss, a careful examination of expenditures is needed in order to ensure that money is not being spent needlessly or on the wrong things. It is also advisable to examine marketing and advertising methods to determine their effectiveness. If there is no advertising being done, this is an expense that needs to be considered.
Prices
A common business error is pricing products and services too low. Business owners often think that the lower the price, the more demand there will be for their product or service. However, if your price is too close to how much it costs to produce the product or service, it affects the profit margin. If sales are good but you still are not making enough to meet your financial obligations, try adjusting your prices.
In a service providing business, a low price can be misinterpreted as not being qualified and people may not take you seriously. Of course, the converse is also true because you can price yourself out of the market. A happy medium will do you well.
Too Many Overheads
Perhaps instead of five employees your business could run effectively with three. You may be paying yourself too high a salary. Your marketing and advertising campaigns are costing more than they are producing. If you can operate the business out of your home, closing a storefront and working out of the house could save a substantial amount on overhead.
Paying Bills Early
This seems contradictory to what we have been told, but it really is worth it: Pay all bills on time. You should still pay bills by their due date but pay them as close to that date as possible. The longer you can keep that money in your account, the more positive your cash flow will be. This will make sure that you avoid paying penalties and interest on overdue amounts.
Just as you like customers paying on time – you should be a customer that pays well. Practise what you ask your customers for. If you develop a good payment record and you do happen to fall into a rough patch where cash flow is tight – your supplier may look at your history and grant you leniency because they know you usually pay on time and this time is a once-off.
Customer Discounts
Offering a discount to new customers to encourage prompt payment is not a bad idea, as long as the discount is not too deep. Discounts can cut into your profits, leaving you with a reduced cash flow. If you are going to offer a discount to your customers, limit it to 3 per cent or less. Be strict about giving this discount. Have a deadline and stick to it. Make sure the customers know exactly when the deadline is. Keep it consistent across all customers.
Poor Collection Methods
Slow-pay or no-pay customers can be a death knell for a business. If you are going to extend credit to customers, request at least three references and contact them. Do not extend credit to anyone if your cash flow is tight. If you have slow-pay or no-pay customers, begin collection procedures as soon as they are late. If you delay trying to collect, it hampers your ability to collect. A method of deterring customers from paying late or slowly is to charge them interest on overdue amounts. Keep this low as there are regulations as to how much you can legally charge over a year.
Small business cash flow is the number one killer of small business and start ups
This post was updated in February 2023