Cash flow is the lifeblood of any business, and for small business owners, it can mean the difference between success and failure. According to a study by U.S. Bank, 82% of small businesses fail because of cash flow problems. This means that tracking and managing cash flow is absolutely essential for small business owners. Let’s explore why cash flow is so important and how small business owners can manage it effectively.
What is cash flow?
Cash flow is the movement of money into and out of a business. It’s the difference between revenue (incoming cash) and expenses (outgoing cash). Positive cash flow means that a business has more money coming in than going out, while negative cash flow means that a business is spending more money than it’s earning. Cash flow is not a fixed thing. Some periods, you may have strong positive cash flow, while other periods you may have negative cash flow.
Businesses will all have unique cash flow cycles. If your business sells on credit terms, you probably have periods of working capital constraint. Then, when your business collects on open invoices, you have more capital to continue making sales. It is important for businesses to have smooth cash flow, and there are various ways to manage strained cash flow.
Why is cash flow important for small businesses?
Cash flow is important for small businesses for several reasons:
- Working capital: Working capital is the amount of money a business has available to cover its day-to-day expenses. Cash flow is critical to maintaining adequate working capital, which is essential for small businesses to operate and grow.
- Planning: Cash flow is an essential component of financial planning for small businesses. By tracking cash flow, small business owners can identify potential shortfalls in advance and take action to address them.
- Investing: Small businesses need cash flow to invest in new products, services, people, and technologies. Without adequate cash flow, small businesses may struggle to keep up with their competitors and grow their business.
- Paying bills: Small businesses need cash flow to pay their bills on time. Late payments can lead to penalties and damage a business’s credit rating, making it harder to secure financing in the future.
How can small business owners manage cash flow effectively?
Here are a few tips for managing cash flow effectively:
- Track cash flow: Small business owners should track their cash flow on a regular basis, such as weekly or monthly. This can help identify patterns and trends that can be used to make better financial decisions. Some accounting software will provide cash flow reports for you to monitor.
- Create a cash flow statement: A cash flow statement shows the inflow and outflow of cash over a specific period. Small business owners should create a cash flow statement regularly to ensure they have an accurate understanding of their financial position and unique cash flow cycles.
- Manage expenses: Small business owners should carefully manage their expenses to ensure they’re not overspending. This can include negotiating better prices with suppliers, reducing unnecessary expenses, and seeking out financing options to cover expenses when necessary.
- Consider financing options: Small business owners should consider financing options, such as invoice factoring to help manage cash flow.
Invoice factoring and cash flow
Invoice factoring is a financing method that specifically targets cash flow. Rather than a loan or line of credit, invoice factoring is debt-free. The amount of funding available to a business relies on the amount of sales that business makes. This means that as your business grows, your funding grows with it. Factoring improves cash flow by eliminating the waiting period between sale and invoice collection.
The Importance of Cash Flow to Small Businesses
Healthy cash flow is critical to the success of small businesses. When growing, business owners need to track cash flow, manage expenses, and seek cash flow financing options. A growing business is typically at risk of bad cash flow, especially when selling on credit terms. This is why invoice factoring is such a great cash flow financing method for growing small businesses.