No business owner wants to wake up on a Friday morning with no idea how they are going to make payroll or pay that mission-critical vendor. That’s why cash flow management is something that needs to be worked on all the time.
Too often when my team talks with small business owners—those with $5 million or less in revenue—about cash management, they view it as a “Band-Aid” product instead of an integral part of the way they do business. We sit down with owners to understand the ins and outs of their businesses and how they can make improvements to achieve strong cash flow. Here are the five key elements we discuss:
1. Projected sales growth. We like to start by talking about growth because strong cash flow is most dependent on a company’s profitability. What are your revenue growth plans? Marketing plans? Is your industry experiencing rapid growth or declining market share?
2. Gross margins. Another critical aspect is managing the cost of the product or service sold. How solid are your vendor relationships? How open are they to negotiation? Is your business hampered by guaranteed prices and fixed contracts?
3.Overhead expenses. This seems like a given for any business, but you would be surprised by how many owners don’t scrutinize their expenses and find ways to keep overhead as low as possible. We typically recommend that businesses use third-party firms that conduct annual audits and market comparisons to make sure they’re not paying too much, duplicating services or being over-billed.
4.Payment and collection systems, including fraud prevention. A good recipe for business success is to buy low, sell high, then collect early and pay late. With today’s technology, you can be billed electronically by vendors and pay them electronically via ACH on the exact due date of the invoice. Most small businesses can’t afford to absorb large frauds or theft, but today’s banking services make it easy to install dual controls and checks and balances to keep that from happening.
5.Capital expenditures and debt structure. Evaluate these decisions carefully. Many times a business is tempted to pay cash, only to find months later that the cash is really needed for operations. The right debt structure can make all the difference.
For more information about each of these points, listen to the full podcast below.
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FAQs
So, what are the 5 principles of cash flow management? Accelerate cash inflows through active accounts receivable management, timely invoicing and sending out payment reminders, offering discounts for early payment, and enforcing strict credit policies.
What are the key elements of cash flow? ›
The three main components of a cash flow statement are cash flow from operations, cash flow from investing, and cash flow from financing. The two different accounting methods, accrual accounting and cash accounting, determine how a cash flow statement is presented.
What are the characteristics of a good cash flow? ›
Healthy cash flow in a business shows its ability to meet obligations, invest in new opportunities, and sustain growth.
What makes a strong cash flow statement? ›
The bulk of the positive cash flow stems from cash earned from operations, which is a good sign for investors. It means that core operations are generating business and that there is enough money to buy new inventory. The purchasing of new equipment shows that the company has the cash to invest in itself.
What are the 5 principles of cash handling? ›
General Cash Handling Principles
- Stewardship. The careful and responsible management of something entrusted to one's care. ...
- Accountability. One person has sole responsibility for a fund. ...
- Separation of Duties. ...
- Physical Security. ...
- Reconciliation.
7 important cash flow drivers in a business
- Revenue growth.
- Gross margin.
- EBITDA margins.
- Capital Expenditure.
- Accounts receivable.
- Accounts payable.
- Working capital.
What Does a Healthy Cash Flow Statement Look Like?
- Positive Cash Flow from Operating Activities. The foremost requirement of a healthy business is its ability to generate more cash than it spends. ...
- Customers Pay on Time. ...
- Upgrades and Expansions Are Funded by Operating Activities, Not Financing.
Cash flow refers to money that goes in and out. Companies with a positive cash flow have more money coming in, while a negative cash flow indicates higher spending. Net cash flow equals the total cash inflows minus the total cash outflows.
What does a good cash flow look like? ›
If a business's cash acquired exceeds its cash spent, it has a positive cash flow. In other words, positive cash flow means more cash is coming in than going out, which is essential for a business to sustain long-term growth.
What is a healthy cash flow? ›
A healthy cash flow ratio is a higher ratio of cash inflows to cash outflows. There are various ratios to assess cash flow health, but one commonly used ratio is the operating cash flow ratio—cash flow from operations, divided by current liabilities.
At its most basic, positive cash flow is when cash inflows are higher than cash outflows in a given period. Essentially, this means that more cash is coming into your business than going out of your business.
What is a strong operating cash flow? ›
It is determined by dividing operating cash flow by current liabilities. A ratio greater than 1.0 indicates that a company is in a strong position to pay its debts without incurring additional liabilities.
What are the basics of cash flow? ›
Cash flow is the movement of money in and out of a company. Cash received signifies inflows, and cash spent is outflows. The cash flow statement is a financial statement that reports a company's sources and use of cash over time.
What is the basic principle of the cash flow statement? ›
The cash flow statement provides information about a company's cash receipts and cash payments during an accounting period. This allows an analyst to determine if the company generates sufficient cash to finance its operations, pay off debt, and distribute cash to shareholders.
What are the five principle of financial accounting? ›
Although the guidelines for accountants are extensive, there are five main principles that underpin accounting practices and the preparation of financial statements. These are the accrual principle, the matching principle, the historic cost principle, the conservatism principle and the principle of substance over form.
What are the general principles of cash flow estimation? ›
The following principles are consider in cash flows of the project: Separation principle. Incremental principle. Post-tax principle. Consistency principle.
