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May 14, 2012 Profit motives

Breaking a logjam in your cash flow will keep you in business

By Alison Hinson

Cash is king. You've probably heard this a million times, but what does it really mean for your company and your employees?

Imagine it's the middle of a Maine winter and your 200-gallon oil tank needs to be filled. At $4 a gallon, you need to find $800 to keep your house heated for the next few months. This is not a problem as long as you can give the oil company a stack of $20 bills, write a check for $800, or have $800 available on some sort of credit line (credit card, home equity loan). Are you overdrawn on your checking account and over the limit on your credit card? Now you have a cash flow issue.

Companies face the same cash flow issues on a daily basis. The doors of your business can stay open as long as you either generate cash through operations or have the ability to borrow cash.

The Statement of Cash Flows, a standard accounting report, tells you how much available cash you have. As important as this information is, many small businesses owners don't set up this report in their accounting software. If they do set it up, they don't bother to look at it.

There are several reasons why this report is more important to your daily operations than the income statement. Imagine you sold a $100,000 product and just finished entering the invoice in your accounting software. The income statement shows that revenue and net income have increased by $100,000. While this looks great on the income statement, it doesn't help pay the bills that are due tomorrow since you haven't deposited the $100,000 in your bank account.

The Statement of Cash Flows report can help you answer the following:

  • Do you have enough money to meet payroll and pay your vendors?
  • When will you run out of money?
  • When will you have enough cash to purchase some necessary equipment?
  • Is your line of credit large enough to cover your operating needs?

    • There is a quick way to figure out if you have a cash flow issue:

  • Add up all of the expenses you pay in a typical month. Include the money you spend on payroll, rent, office supplies, inventory purchases and any other expenses that you need to keep your business running during the month.
  • Now add up all of the cash you expect to receive this month. This money will come from three sources: what is currently in your bank account, money received for cash sales and what you plan to get from outstanding accounts receivables.

    • Your monthly cash inflow needs to be greater than your cash outflow on a regular basis in order to stay in business. Sounds simple, doesn't it? Unfortunately, many business owners don't know how much cash they need to survive on a monthly basis. This one calculation can tell you whether you are headed to the bank to make a cash deposit or to ask for a loan or increase in your credit line.

    Are you having a cash flow problem? There are several things that could cause this: Are your customers paying too slowly (or not at all)? Do you have too much inventory sitting around? Are you charging too little to cover your overhead expenses?

    Most companies run into these issues. The successful ones are able to figure out what is causing the cash flow problem and then fix the underlying issue. As you work toward solving your long-term cash issues, here are some suggestions for the short term to help improve your cash flow:

  • Your line of credit is a great source of ready cash (assuming you still have cash available and you are meeting the bank covenants). Credit cards are an expensive alternative, but many small businesses have used them to stay afloat.
  • Start working down inventory. Selling items at a discount won't help your income statement, but it will provide cash. Most companies don't go out of business because they have a poor bottom line — they go out of business because they have no cash. Don't be afraid to take a short-term hit to your P&L if you have excess inventory that you can easily convert to cash.
  • Try stretching out your accounts payables. This is could create some long-term ramifications with your vendors, so use this tactic wisely.

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