Why Just Focusing on Cash Flow, Will Not Improve Your Profits.

Why Just Focusing on Cash Flow, Will Not Improve Your Profits.

cash-flow-colour Why Just Focusing on Cash Flow, Will Not Improve Your Profits.

Having to manage your cash flow day to day and week to week is tiring, energy draining and stressful. So why do we continue to do this? Really, we should be focusing on trying to get to the root cause of why we are having to do this.

I guess it’s hard when you don’t know where to look. Managing the short-term problem feels more pressing. We often believe that this is just a short-term blip. But what to do when this has almost become a way of life. If your cash flow management has been going on for some time and there seems to be no indication that the situation is getting any better? So let’s try a different approach.

My approach is based on solving the cause, not just managing the impact.

This means by tackling the operational issues in your business which are causing the cash flow problems. Then you are most likely to build a profitable business moving forward. A business that is truly cash generative and one that needs minimal cash flow management.

Growing Sales Does Not Solve Cashflow Problems

Firstly, let me just say,

If you think that getting more sales is going to solve your cash flow problem, in 99% of occasions, it won’t. It will make things worst! If you want to understand why, take a read of my blog :

Why Business Growth may not be the answer to solving your cashflow problems. which explains this in more detail.

I am going to suggest an approach you can use, and in fact one I always use when confronted with a business in this situation. This approach will enable you to get to the root cause of your cashflow problems so you can stop wasting all your time just managing the situation.

It’s based on working your way through a series of questions

So, let’s start with the first question.

Are your sales ledger processes working as they should?

In this I mean,

Do you have a lot of late payers?

Are you growing and giving extended lines of credit to secure new customers?

Are you confident that you are invoicing on time, accurately and to timescale?

Not sure? Well a quick look at your sales ledger reports should give you the answers to these.

By having an up to date Aged Receivables report this will tell you what customers are overdue for payment to you.

cash-flow-colour Why Just Focusing on Cash Flow, Will Not Improve Your Profits.

Check that you are putting the correct due dates on your invoices and check that all your customers are being invoiced to the right time periods. Basic stuff I know but it is these basic financial processes that can often lead to huge ramifications on your cash flow.

I remember working for a business that consistently invoiced for the last weeks sales made in the current month, with an invoice date of the 1st day of the next month. This meant that they were always inadvertently giving an additional 30 days credit to those customers who were invoiced in the final week of the month!

Are your purchase ledger processes working as they should?

Likewise, you need to ask yourself

Are you registering all your supplier invoices as they come in?

Are you paying early?

I met a business owner who was literally managing “hand to mouth” their suppliers, as one customer paid, they paid a supplier. They didn’t register the supplier invoices on the system because psychologically they didn’t want to see the whole debt outstanding. Burying your head in the stand is not going to make it go away! Get all the information onto the ledger and this lets you visually see the size of the challenge so you can do something about it.

The usual tactics of short terms cash flow management apply here and if you want some practical ideas here’s a link to download my free cash flow management eBook here.

cash-flow-colour Why Just Focusing on Cash Flow, Will Not Improve Your Profits.

Free Cash Flow Ebook

 

The second question is twofold. Clearly don’t pay any supplier until their agreed due date. This question also directs your attention to seeing if you have negotiated the best payments terms you can with your suppliers. If you have worked for some time with a supplier and you spend a decent amount with them, now go back and ask for more generous payment terms.

There will always be some suppliers who want to be paid on proforma or upfront. This will normally be due to you being a new customer. However, after a period of time, trust should be earnt. I would expect this to be rewarded with at least 30 days credit terms. Go back and ask, it can’t hurt!

 

 

 

 

 

 

Have you assessed what working capital you need to bridge the gap between paying suppliers early and getting cash in late.

If the problem then is because these two processes above are simply not being managed correctly, the employment of short term cash flow tactics should be all you need. This will give you sufficient time to improve your Purchase ledger, Sales Ledger and Credit control processes.

Depending on how much time you feel you have to correct these, there may be a short-term need for working capital.

The important thing is to be clear on your reasons for going for additional funding.

If you are simply going for funding to try to pay suppliers and wait for sales to increase, this is unlikely to successfully resolve the root cause of your issues.

This tactic will only result in you racking up more debt and prolonging the long slow death of your business.

 

The importance of Management Information.

Having established that your basic financial processes are working correctly, it’s time to look at your business profit model.

Do you have monthly accounts? Do these help you to assess whether your business is making profitevery month?

Although you may have monthly accounts, they may not provide you with the right monthly management information.

You must be able to say with some level of certainty, whether your business has made a profit this month.

 

Profit versus Cash.

This is not the same as saying I have cash in the bank. Cash and profit although related are not the same thing. It is imperative that as the business owner or manager, you understand the difference.

The Management information that you need are the key figures that make up your Financial Business Shape.

Financial Business Shape.

When I talk about Financial business shape I refer to the following key figures:

Sales

Cost of Sales

Gross Margin

Overheads

Net profit

Focus on Operational Improvements.

These 5 key figures make up your business shape. An understanding of these figures is essential as your way forward for improving profits..

Cost of Sales

The cost of sales figures can be improved by focusing on all the resources that flex directly with sales. These can include; direct labour, raw materials, delivery costs, sales commissions and promotional costs.

 

Overheads.

The overheads costs are more a function of how you have decided to structure up your business. This is very much determined by you as the owner. Have you chosen to locate in a high cost area because that is fundamental to your business? Perhaps you have chosen to use a lot of subcontracted services which are far outweighing the size of your business..

References to similar industries and comparative benchmarks can help you here

If your overheads are 30% or more of your sales value you need to understand why it is so high. What specific items within your overheads are contributing to the value creation for your business.

Cash flow Management should only be long term when you can demonstrate Profit Growth

Cash flow management should not be consuming you as the business owner or manager. I know you may prefer to do this task for fear of sharing this information with your staff.

I feel the better approach is to resolve the issue not manage it. My approach gives you a format to tackle this in a structured way and I hope you find this useful.

Please check out my resources pages for lots of further advice on how to tackle your small business financial management issues.

Do contact me if you want my help in resolving the cash flow issues in your business.

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