Even a profitable business can’t stay open without positive cash flow. Some experts argue that it is the single most important factor in any business, and that is especially true for small companies that are looking to grow. Unfortunately, it can also be complicated and challenging, with more moving parts than a grandfather clock. Here are three proven ways to take control of your cash and get it flowing in the right direction. To make things clearer, we’ll use a fictional contractor as an example: Nick’s Electric.
1. Refine Your Receivables
If everybody paid their bills the moment they got them, cash would never be a problem. In the real world, however, credit is a way of life – especially in business. Therefore, it’s important to set payment terms with your customers that are healthy for your business. Clearly defined terms are critical, because you need to know when you are going to get paid in order to make virtually all of the other decisions in your business. If your customers can manage it, 30 days is a good place to start. In fact, offer customers a discount for paying in 10 days or less, and you’ll get your money even faster. You may also want to consider allowing customers to pay by credit card and letting them know which cards you accept. Finally, a bit of common sense: You can’t get paid promptly if you don’t send out invoices promptly. Issue them quickly and follow up as soon as any are past due.
Nick never thought much about credit terms. He was friends with most of his customers, and he knew he would get paid eventually. But it was hard to pay expenses when he wasn’t sure if he would have enough money. It seemed like he was constantly putting out financial fires, and it was difficult to stay positive when he was spending so much time on collections. Finally, he sat down and added terms to his invoices – payment due in 30 days, 2% discount for payment in 15 days, 1.5% late fee for payments later than 30 days, major credit cards accepted – then explained them to each of his customers. His cash flow improved almost immediately, and it was much easier for him to predict when he would have cash on hand for expenses. He worried a lot less because he knew that as long as he got his invoices out by a certain date, he would get paid by a certain date. Instead of putting out fires, he could plan ahead.
2. Stay Organized With Multiple Accounts
Experienced bookkeepers know that tracking cash flow is more challenging when it all comes and goes from a single account. If you just got paid on a big job, your checking account may look deceptively flush, even though you have two or three payments that need to come out immediately. It’s easy to see a healthy balance and decide that you are going to start writing checks without understanding that the money is already committed elsewhere. At the very least, most businesses have a separate account for payroll. Some companies take it even further, with special expense accounts for things such as suppliers or subcontractors. For example, if a contractor gets paid by a customer for a subcontractor’s work, then puts that money into a unique account for that subcontractor, he can easily tell if those critical expenses will be covered.
Nick counted on Phil at Phil’s Custom Contracting to help him whenever he ran into a job that needed carpentry. The last thing he needed was to have Phil angry with him because he didn’t get paid on time (after all, Nick knew how challenging cash flow could be when cash came late!). To make sure that Phil got paid promptly, Nick set aside Phil’s portion of any customer payment. He put it into an account he called “carpentry sub,” which helped him so that he always had money ready when he got Phil’s invoice. It was worth it when Phil came in on a weekend to save the day on a big project, and didn’t charge Nick anything extra because he was a good customer.
3. Be Ready For Shortfalls
In general, every small business gets caught in a cash crunch once in awhile, and it’s OK to ask for help – from the bank, your suppliers, etc. But as the old saying goes, the best time to ask for money is when you don’t need it. Don’t wait to apply for a line of credit until you’re out of cash. Renew it at the same time each year and only use it when you absolutely need to (and pay it off as soon as you can). If it’s an annual line of credit, it’s beneficial to pay it down to zero a few times each year. The same goes for negotiating terms with your suppliers. Work hard to be a good customer, and they’ll be much more understanding if you need to ask for a little more time to pay an invoice. A good rule is to treat them like you would want to be treated yourself – after all, they have cash flow challenges of their own.
Nick was thankful that he had spent time with his banker earlier in the year when everything was more normal. Now that he had a big job that was moving slowly, he needed to put his line of credit into action in order to keep up. Because he had worked on organizing his cash flow, he knew when he could pay back the bank, but in the meantime, he was glad he had their support. The system he had in place continued to work smoothly because he had thought ahead.
“Positive cash flow” is a business term that means your cash is consistently where it needs to be, and the word “positive” could hardly be more fitting. With a little planning and some advice from those in the know, it’s possible to take the stress out of your monthly bookkeeping. That’s a positive step indeed.