This blog continues on from yesterday and describes the internal factors that can affect cash flow. Internal factors are those that are within the control of your business. It is important to diagnose the factors that are affecting cash flow in your business. If misdiagnosed you will waste valuable resources trying to fix your cash flow problem. The examples in the factors are based on a book retailer like yesterday’s blog.
- Profitable – For a sustainable positive cash flow a business needs to be profitable.
- Debtors, stock and creditors – Poor control of these three factors can cause major cash flow problems. They are the silent killers of cash flow. For example, when the shop moved into the larger premises the amount of stock doubled, this stock had been financed from the cash in the bank.
- Over capitalised – The purchase of assets that are not producing a reasonable return on investment will affect cash flow. For example, the new shop required new fixtures and fittings however there was no increase in revenue from the investment.
- Too high borrowings – The business has borrowed too much and its loan repayments are causing cash flow problems.
- Taxation – The business can encounter problems when it doesn’t set aside money for income tax. Another problem is spending GST or VAT collected before remitting it to the tax department.
- Owners – The owners of the business withdraw more cash out of the business than the business is generating.
- Unplanned or uncontrolled growth – This can be one of the biggest causes of cash flow problems in small business. It results in overtrading, i.e. buying and selling more than the resources of the business can handle.
- Lack of planning – Cash flow is all about timing. If a business is not prepared for large payments it will affect the cash flow.
- Poor quality financial information – The lack of regular financial reports will cause poor decisions to be made.
10. Poor internal controls – Internal controls are procedures to safeguard the business’s assets. For example, no procedure to follow up overdue customers.
Early diagnosis by doctors can save lives. Similarly, early diagnosis of cash flow causes can save your business. Relying solely on the traditional financial statements to ensure a healthy cash flow is not enough. To diagnose the real cause of poor cash flow in your business you will need to go beyond the numbers of the financial statements.
If you have cash flow problems then learn simple strategies that you can start using today that will increase your cash flow and make your business a success by downloading the ebook 10 Cash Flow Strategies for a Successful Business free. Click here to get your copy.
Managing your cash flow is one of the most important aspects to running a business. We have seen in the past few years a number of high profile companies that were supposedly profitable go bankrupt.
The cheapest and best source of cash for a business is the efficient management of the cash conversion cycle (or simply the cash cycle). The cash cycle is made up of three core components:
- Stock management (including work in progress)
- Payment of suppliers
- Collection of cash from customers
We need to keep a close eye on these components and the actual cash in the bank. If there are any leakages in these components then we may have additional costs hindering our financial performance. These costs may include extra interest charges for the overdraft, missed opportunities or loss of reputation when not paying creditors promptly.
The cash cycle is the length of time it takes from purchasing your stock till you receive payment from your customer. We can measure this cycle with the following performance indicators:
- Days Inventory – the average number of days your stock is held before being sold.
- Days Receivable – the average number of days to collect cash from your customers.
- Days Payable – the average number of days to pay your suppliers.
The Cash Cycle = Days Inventory + Days Receivable – Days Payable.
Generally, the shorter the number of days the better. However, it is not recommended that you hold off paying suppliers to reduce your cash cycle. The cash cycle needs to be compared to industry norms as well being reviewed for efficiency.
There is an excel spreadsheet available on the resources page of my website that calculates the cash cycle for you.