Every business will experience the need for more cash from time to time. The key to improving your cash flow is to accelerate your inflows and delay or reduce your cash outflows.
In other words: make sure more money is coming in than going out.
It sounds easy, but there are several factors at play. In this post, we boil down 5 key components that affect the timing of your cash inflows and outflows. In part 2, we’ll offer up suggestions for improving your cash flow.
Five factors that affect your cash flow timing
1. Collection of accounts receivable
An AR represents cash tied up that could have been used to run and grow the business.
Check the age of your receivables. If it’s taking longer to receive payment than your credit terms allow, you’re heading for trouble. Keep on top of this.
2. Credit terms and trade discounts
Avoid giving longer credit terms to your customers than your suppliers give to you.
Trade Discounts can incentivize your customers to pay quicker, but should be used with caution. They require a delicate balance between offering a discount amount (percentage of sale or fixed amount) that is meaningful to your customers while still maintaining a healthy profit margin for you.
3. Enforcement of credit policy
A Credit Policy ensures cash is available when you need it – but you must be prepared to enforce it. This means applying discounts as outlined, charging penalties on late payments and calling your customers when payments are overdue.
4. Purchase and sale of inventory
Having too much inventory affects your cash flow as, again, that is cash tied up with unsold merchandise. Monitor how much inventory you have and select inventory that sells.
5. Repayment of accounts payable
Your Accounts Payable schedule should be in line with your credit terms. Stretch payments on your payables until they’re due (but not overdue).
Some business owners are reluctant to keep track of accounts payable. The cash flow gains, however, can be enormous. That way you can use your cash for other immediate needs. In general, collect your cash faster than you are required to pay your bills.
Having a projected Cash Flow Statement — and comparing actual cash flow to it — is a critical way of managing and improving your cash flow. Projections help you prepare in advance for future cash demands.