Cash is the only life and death issue for your business. There are many important things in your business to worry about – people, products, service – but these are all important because they impact cash.
It doesn’t matter how much money might be coming in the future if you don’t have enough to get you there. Employees can’t wait for their salary until your customers pay. Suppliers don’t care that you are talking to investors and will have the money in a couple of months. You need to be able to purchase the goods you need for your customer in order to get paid. If you don’t have the money to make the goods, you don’t end up getting paid.
Businesses thrive on cash flow, not profit. If you have cash you can run an unprofitable business for years. Bioscience companies have long research and development cycles without selling any product. Twitter has taken nearly 10 years to reach profitability. These companies are all in business because they have cash. You really need to structure your business to have a positive cash flow if you want your business to grow and increase profits.
Over time, your business will go through various stages of the business life cycle. A business goes through stages of development similar to the cycle of life for the human race. Parenting strategies that work for your toddler can not be applied to your teenager. The same goes for your business.
Just like people, businesses often follow the same pattern: start-up, growth, maturity and then decline. At each stage of the cycle you are faced with different cash flow challenges and strategies. Each of these is important and requires a different approach to be successful.
STAGE 1: START-UP
Your business is born. The start-up stage is a high risk time and lack of capital is a key cause of business failure. You must be fanatical about monitoring cash flow to prevent a serious business disruption. Despite this, many business owners don’t truly have a handle on this. Your focus needs to be on establishing a customer base and market presence along with tracking and conserving cash flow. The main challenge is not to burn through what little cash you have.
When you start a business, there are many expenses that come up that are difficult to predict. For this reason you must have some form of cash reserves. Cash is like a physical cushion. Make sure that you are only buying things that are essential to generating revenue. You need to keep as much cash on hand as you can, so that you have quick access to it when you need it. Create a budget by estimating when you will begin receiving revenue and balance that against the need to pay certain expenses. This can be updated often to provide an accurate prediction for the next six to 12 months. Every morning you should know how much cash you have on hand, how much you will have for the next week and month, and a plan for how much you need for the next year.
It helps to work with reliable and quick paying customers initially, even if it means smaller customers with slimmer profit margins. If you need to make a big purchase, such as property or a piece of equipment, you may want to consider financing this. While you will be paying additional on interest, it will give you a reasonable monthly payment and allow you to keep your cash on hand.
STAGE 2: GROWTH
Your business has made it through the toddler years and is now a child. Customers and sales are increasing and with this comes a lot of new opportunities and issues. Growing your business puts a huge strain on cash. You almost always need to incur expenses and make investments before achieving the higher revenue and cash flow that comes with successful growth. You may need to purchase new equipment or build a new facility to have the capacity to sell to larger customers. Or, you need to open a new office in a new location to build the business there. This always requires cash up front. The real power of cash is that it creates opportunities. When you have cash you can move quickly and exploit opportunities quicker than your competition.
During a period of growth, you may wonder why you have made more profits, but don’t have any more cash. The reason is because of the time lag between paying your supplier and your customer paying you, which could be months later. This may be longer depending on your sales cycle and how long you hold on to stock for. This problem is magnified when sales are growing, requiring working capital to fund this cash gap.
Fortunately technology has made it much easier to manage cash flow. Cloud-based accounting has enabled a faster and more effective way for business owners to measure the timing of receipts and payments. You can see in real-time how you are going against your cash flow forecast. This enables you to better predict the future cash position and take corrective action quickly.
If you operate a seasonal business your revenue will peak and decline depending on the time of year. Managing your cash flow through these fluctuations is essential. If you can, plan your cash flow over a year. Use historical reports from previous years to forecast your sales for each month, identifying your busiest periods. You’ll also need to consider your fixed expenses, such as rent and salaries, and the timing of these. Strategies for managing cash flow can include negotiating extended payment terms from your suppliers. This is especially useful as you head into the busy season and incur most of your variable costs. You can also try to secure a percentage payment up front from customers or diversify your products or services to include those popular during your off-season.
STAGE 3: MATURITY
Your business has grown up and matured into a thriving company with loyal customers. Growth is manageable and may be achieved by expanding into new markets or making acquisitions. With stable revenue and profits your business should be generating free cash flows. Focus will be on extracting value from the business for shareholders and a potential exit strategy. Positive cash flow can be used to pay down any debt and you should weigh up the costs of debt versus equity.
STAGE 4: DECLINE
In a slowing business, revenue and profits are in decline. Often as a result of intense competition, sales may start to fall off and you need to decide whether to expand by seeking new opportunities and ventures, or exit the company. The biggest issue at this stage is how long the business can support negative cash flow. Cutting costs and finding ways to sustain cash flow are vital. Ask yourself if it is time to move back to an earlier stage of expansion or growth or move on to the final life cycle stage, exit.
Taking the time to reflect on where you are in your business life cycle will determine which cash flow strategy is your lifeline.
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