With the nation being encouraged to ‘join the conversation’ during Talk Money Week 2021, we’re talking about the importance of cash flow: what it is, why it’s important, and how you can measure and improve cash flow in your business.
It’s a fact that most businesses fail because they run out of cash and are unable to pay their bills.
Take, for example, the high-profile bankruptcy of Lehman Brothers in 2008; the biggest bankruptcy filing ever in the USA. One of the most successful and oldest investment banks in the world that failed not because it ran out of clients or sales but because it had insufficient assets to settle its liabilities, i.e., not enough cash to settle its debts. Ignoring this basic business principle brought down an organisation with $600 billion in assets.
What is cash flow?
Cash flow is, quite simply, the total amount of money being transferred into and out of a business.
The business word for cash flow is “liquidity” and is defined as the ability to quickly turn assets into cash and pay liabilities when they become due. To improve liquidity you have to speed up the conversion of stock into sales and debtors into cash while keeping creditors to a minimum.
Why is having cash flow important?
Irrelevant of the size of your business, your cash flow is vital. You have probably heard the saying, “Turnover is vanity, profit is reality but cash is sanity” and it’s the reason why the first thing I look at with my clients is how to improve their cash flow.
Without the cash to pay your staff, buy stock and pay the rent on your premises, your business cannot function, no matter how fast sales are growing and how successful it may appear to be.
- The biggest blockages for most businesses are:
- They are bad at collecting their debts
- They are slow at converting their stock into sales
- They are under-utilising their assets and not bringing in enough sales to cover their costs (here I’m referring to people and equipment)
- They are running up more debt to keep the business afloat
Money is the lifeblood of a business; it needs to flow. If it stops flowing then, just like a river, pressure will start to build up and trouble will follow.
How can I measure and improve my cash flow?
The first step is to measure what you want to improve. In his book Keys to the Vault, Keith Cunningham states that financial indicators are the scorecard of business. If you do not know how to keep score, you can’t play the game. The quicker your game is being played the more often you need to keep the score.
For some businesses, it’s sufficient to check the key financial indicators on a monthly basis. For some, it may be a daily basis. But remember to avoid “paralysis by analysis” – choose the key indicators that are going to give you the information you need and act on the information quickly when required.
Some key indicators are:
- Liquidity ratio – current assets / current liabilities
- Debtor days – average number of days your clients take to pay
- Creditor days – average number of days you take to pay your suppliers
- Stock turnover – average number of days you hold stock
- Bank balance – how much cash you have
- Cashflow forecast – projection of your daily/weekly cash flow requirements
Now you are measuring your cash flow regularly, how can you improve it? Some of the best and simplest strategies that I have used with clients are as follows:
- Request or increase an up-front deposit from customers
- Ensure work is finished quickly and dispatched on time
- Invoice immediately or on a more regular basis
- Reduce your payment terms and charge interest to late payers
- Have a debt collection policy and apply it rigorously
- Review your overheads regularly
- Minimise stock holdings and order on a ‘Just In Time’ system
- Ask suppliers for better payment terms or discounts
- Realise old/slow-moving stock and assets
For more advice on cash flow and how we can help you and your business, book your free, no-obligation call with one of our coaches online or call us on 02392 454 111.
