Many businesses suffer the problem of tight cash flow, especially in the current economic climate with rising costs. Planning and understanding a business’s cash flow requirements is critical to help manage the ups and downs experienced throughout a year. Without cash flow, no business can pay wages or expenses (or the business owner!). The ultimate risk is business failure, but even very profitable businesses can experience cash flow difficulties.

While tight cash flow can affect any business from time to time, new businesses especially need cash upfront, as it usually takes some time to become profitable. Older businesses, whilst more stable, are not immune to a few bad months, especially if the economy is taking a hit or a major customer is slow to pay.

These five steps will help you get better control over your cash flow to avoid problems in the next few months and beyond.

1. Understand your business’s cash flow cycle

Small and medium-sized businesses across different industries manage their cash flows in different ways.

In its simplest terms, cash flow is the difference between cash coming into your business accounts and cash going back out.

For example, in construction businesses, the cash flow involves:

1. Buying materials
2. Building the product
3. Paying subcontractors and employees
4. Sales invoice for work completed
5. Paying tax amounts

Although this may seem simple to manage, what most business owners struggle with is the amount of time between each step.

If you could complete all four steps in a single day, then you’d never have to worry about your cash flow. However, when it takes more time to convert the cash going out into cash coming in, shortfalls occur. If shortfalls occur each month, your cash flow will dry up and your business will face problems.

2. Understanding the importance of invoice timing

Timely invoicing and following up outstanding invoicing is critical to getting money in the door. These four actions will help with this:

• Invoice as soon as the work finished. Don’t wait until next week or when you have time to do it. While ideally your invoice terms are 7-14 days, some accounts might be 30 days and if holding off invoicing until next week falls into the following month, this may result in payment not being made for another 30 days.
• Continuously follow up your outstanding debtors (every week!). It’s a task no one enjoys, but there are many times old amounts owing might sit at $50-$100,000 which goes a long way to paying the bills.
• Customers will take advantage of people who do not follow them up and prioritise paying other bills if they know you won’t follow up, so the problem grows.
• Some jobs might require a small defect to be repaired before the whole job can be invoiced. These repairs should be addressed as timely as possible, so it doesn’t significantly delay the invoice being issued and cause cash flow issues for upcoming needs.

3. Short-term funding options if cash flow is short

All businesses should aim to have a 3–6-month operating expenses reserve to help ride out fluctuations in tough business climates. However, this is a luxury for a lot of small businesses who live day-to-day from the money they make.

Having available short-term funding options can be difficult and expensive if not pre-planned. Lenders such as Prospa are quite easy to access with short-term credit but with upfront fees of about 3.5% and interest rates generally between 10-20% unsecured, the repayments of these amounts often compound cash flow issues.

Having a bank overdraft facility for use in times of need will provide similar support but often for half the interest rate paid to lenders like Prospa. The major lending institutions can be tough to work with at times, but this option will financially be better than the lower tiered lenders who take on more risk.

4. Plan your cash flow eight weeks ahead

Using a system to review your upcoming invoices, bills, and other expenses for an eight-week period will allow you to see how money flows in/out of your account and anticipate what’s coming. It’s important to look at least this far ahead as some bills – such as tax bills – are due every three months, so short sighted planning may not include these amounts, and money may not be set aside to cover these costs.

Online software programs like Xero and MYOB have useful analytic tools built into the software to predict your upcoming cash flow and can be further tailored by inputting additional data to get a really accurate picture of the business’s cash position.

When cash flow is really tight you should ideally create weekly forecasts. After all, losing track of your finances could mean losing your business.

The overall goal is to make sure you always have enough in your accounts to pay your bills on time and not overdraw from the business.

5. Managing tax amounts

The area most businesses run into trouble is not managing their tax payable amounts in a timely or organised fashion.

For businesses early in their lifecycle, they may have a good trading year and unless reviewing or putting aside money during the year, they are quite often left with a large tax bill at year end and may have already spent some or all the money. This is then compounded by new PAYG instalments for the upcoming year (effectively two years tax at once) and has a huge cash flow burden.

The same applies for GST: PAYG on wages each quarter, the money can be collected from sales and not putting aside a portion of this for GST payable amounts will quickly get you behind in managing these debts.

Many small businesses have used the ATO as a ‘bank’ over the years and at times overdrawn money from the business for personal use. As a result, the ATO have acted and stopped allowing interest deductions for amounts accrued on tax debts and Directors are now personally liable for unpaid GST and PAYG withholding debts to deter this from happening now.

Your cash flow is vital to your business, and it’s always a hot topic with clients, especially when it’s tight. The secret is to deal with tight cashflow early – before it becomes a big problem.

Contact us for a chat about easing tight cashflow and get your business back on track.