Cash flow management strategies to support your financial plan
Once you understand your business cash flow trends, implement strategies that may help you manage your business finances.
Keeping a close eye on your cash flow and income statements and picking up on trends is essential to avoiding cash flow problems. Here are three cash flow trends you may encounter and strategies you may consider for managing your money in these situations.
Are sales going up but profit margins going down?
If so, it's time to identify why, says Janet Attard, founder and CEO of Business Know-How and the author of two books on small business. Most likely, the answer is that your costs are too high.
"Costs will increase as sales increase, but watch your profit margin," Attard says. "If your profit margin goes down, figure out where you're spending too much and scale back."
When sales go up, the amount you need to spend on goods, labor, raw materials, and space often goes up, too. Before you raise prices, decide not to purchase additional equipment, or opt out of an opportunity for a larger location because of increased expenses, determine your marginal cost — the total difference in cost when you change your production quantity. You may discover that a higher output can save money per unit. To calculate marginal cost, divide the difference in total cost by the difference in product quantity.
For example, you make 500 units for $5,000, but you can make 1,000 units for $8,000.
Determine the difference in productions costs and number of units:
$8,000 - $5,000 = $3,000
1,000 units - 500 units = 500 units
Then divide the different in costs by the difference in units:
$3,000 ÷ 500 = A marginal cost of $6.
Ideally, the marginal cost will be less than the selling price of your product, but a price less than $6 may result in lost earnings. As your company grows, consider the marginal cost as one of the factors in your decision-making process.
Also, because of the uptick in sales, you may be paying more employees to manage your services and sales. Assess the productivity of your team and look for ways to increase efficacy so the fulfillment process is both efficient and cost-effective. You can also consider increasing your prices. If your suppliers are charging you more, it may be time to charge your customers more as well.
Is your list of receivables growing?
Even if the nature of your business doesn't require immediate payment, don't wait until the end of the month to send out invoices. Invoice customers as soon as their service is finished. Another option, according to Attard, is to not bill customers at all, but charge them at the point of sale.
"If a customer can't pay with a credit card, it's OK to bill them," she says. "But you'd be surprised how many invoices you can immediately convert into payment just by asking for a credit card number on the spot."
If you own a project-based business, ask for partial payment upfront. Attard recommends charging customers enough to account for your upfront costs, and then requesting the remainder, which should cover your profit, once you deliver the goods.
Are you getting a strong return on investment from your advertising and marketing?
Advertising is key to bringing in new customers, but too many small businesses blindly spend money on ads without making sure they're actually worth the investment, Attard says. Pay attention to how much you're spending on marketing to acquire each new customer. Ask new customers how they found you, and consider eliminating ineffective marketing strategies. If you primarily advertise online, track the ads and conversion rates to ensure that the money you're spending is going to the right platform.
"The bottom line is you don't want to spend more to acquire a customer than you'll be able to get back from them in a year," Attard says. The more you understand what's truly beneficial to your business, the more wisely you can spend your advertising dollars and the better you can manage your cash flow.