Many small businesses are only one late invoice away from a cash flow crisis. They face serious risks of losing everything they’ve worked so hard to build. One of the biggest reasons small businesses fail is due to cash flow problems.
Time and again, study after study shows that when a business fails, it’s due to poor cash flow. Twenty-two percent of small businesses say that cash flow is a challenge. That’s a pretty sobering thought.
Cash flow has the biggest impact out of almost anything else you can imagine. Fortunately, there are certain factors that lead to cash flow issues or a cash flow crisis. Knowing these factors lets you better protect your business.
This is the reason why Smansha wanted to provide you with six of the top causes of cash flow problems you’ll want to avoid.
1. Lack of an Emergency Fund
No matter what type of business you run, there will be times when business booms. There will also be times when business stutters. When cash flows in, set some of the profit aside in an emergency fund.
You never know what life might throw your way, so having enough funds to cover a catastrophe is smart. If you’re one late invoice from failing — imagine the relief of having an emergency fund during to respond to unexpected cash flow problems.
Ideally, you should start your business with enough funds in place to cover emergencies, unexpected expenses and cash flow issues. However, if you’re already in business, you might not have planned for such a fund. In this case, throw every extra bit of money you can into your emergency fund until you have enough to cover any major issue.
2. Poor Invoicing Practices
Keep cash flowing into your business by invoicing on a schedule and following up on unpaid invoices. Most business people become so busy building their businesses they let paperwork fall behind, which can lead to cash flow problems.
If you don’t invoice your customers, they aren’t likely to pay you. Even if you have invoiced them, you may need to follow up. Remember they are busy, too.
You may also want to run a quick credit check on new clients. If they have poor credit, request at least a portion of the payment up front and as the work is completed. If you can’t keep up with invoicing, try investing in a virtual assistant to keep up on such matters for you. Online software also allows you to automate invoicing and reminders for unpaid invoices.
3. Unsynced Credit Terms
When setting up the credit terms for your customers, you also need to look at the credit terms from your suppliers. If your suppliers offer net-30 and you offer your customers net-60, you’ll likely encounter cash flow issues. Net-days can translate to nearly any number. Some suppliers only offer 15 days (net-15), for example. Seek suppliers with the most generous net-days terms you can find.
Take the time to study your books and discover what terms each of your suppliers offer. Your terms to your customers should be less than the shortest payment time to your suppliers. This gives you some room in case your customer pays a bit late. The last thing you want is to owe your supplier well before your customer owes you.
A free cash flow forecast from Smansha will also give you insights into your accounts receivable cycle. Armed with this information, you can help anticipate and prevent a future cash flow crisis.
4. Growing Pains
Growing at a rapid pace is something every business owner dreams of. Then it happens, and you realize you don’t have the funds to supply that growth. Imagine a scenario where you’re mentioned by a social media influencer.
You suddenly have 100 new customers you didn’t have last month. Where does the money come from to buy the goods to supply those customers or pay the employees to provide a service?
When you gain an influx of new customers all at once, you then have to supply those customers. But, you haven’t been paid by them yet.
One way to avoid this is to change your terms before the growth hits. Ask for at least some payment up front before you send items to customers or begin work. Make sure it is enough to cover your expenses. When the customer pays the remainder of the invoice, you’ll get your profit. It’s easier to wait on profit than to hit negative numbers on the books.
5. Not Monitoring Expenses
Over time, expenses creep in that you might not have budgeted for. Perhaps a supplier raises their prices, and you’re too busy to seek a new supplier. Perhaps your monthly rent goes up, and it’s too much work to move to a new location.
Whatever the cause of these creeping costs, if you don’t monitor them closely, the resulting cash flow problems can potentially overtake your business.
At least once per quarter, take the time to sit down and review your costs. Look at wages, supplier costs, rent and even things such as utilities. Where can you cut down on the costs or implement policies to reduce expenses?
6. Not Planning for Seasonal Fluctuations
Every business on the planet has slow seasons. For retail establishments, this is traditionally January and February. For other industries, it might be the winter months or the summer months or anything in between. Not planning for these fluctuations leaves you with unneeded inventory and lack of funding.
Don’t wait for the fluctuations to cause cash flow problems. Plan ahead. If you know that winter is slow for your business, then cut back on inventory the month or two before the slow season hits. Plan promotions ahead to up your income during these months, or use the time to travel to trade shows and drum up new business and clients.
Cash Flow Woes
Almost every business experiences cash flow problems at some point. Knowing the causes of cash flow issues allows you to avoid the inevitable pitfalls. With a little pre-planning and a lot of organization, your business will run like a well-oiled machine.
Instead of stunting your growth or killing your business entirely, overcoming a cash flow crisis gives a competitive edge by realizing the value of having plans in place.
Wondering just how much cash flow you need to keep your business healthy and thriving? Smansha offers cash flow forecasting.*
Get a free cash flow forecast today and get a handle on problem areas before they become a financial crisis.
We’d personally like to thank Sarah Landrum of Punched Clocks for contributing this post.
This article is informational only and does not replace the expertise that comes from working with an accountant, bookkeeper or financial professional.