Cash flow is a relatively simple concept: it’s the cash that comes in and goes out. The way you use the flow of your business’ cash, however, is complicated. By unravelling that process and enhancing your understanding of how your own flow works, you can improve the way that money flows through your business.
Defining the flow
The term ‘cash flow’ really concerns two things: cash inflow and cash outflow.
- Cash inflow – the money that comes into your business. This incorporates not only the money coming into the business from sales, but also bank loans and other types of financial input.
- Cash outflow – money that moves out of the business via loan repayments, payments for materials and expenses, money invested in company purchases and other outgoing payments.
The secret of improving the flow
The flow of cash in a business really can be envisioned as a stream. Money flows through businesses just like water. For businesses, though, an improved flow isn’t one that moves through faster, but rather one that retains as much water along the way as possible. To improve the flow of your cash, you really want to create a small dam in the stream.
This can be done in three ways. You can improve the way money flows into the business, by improving the efficiency of your invoicing process or creating a more effective way of selling your product. You can create delays in the cash outflow, thereby holding onto money longer and ensuring you get the benefit from having it in your accounts. You can also reduce the cash outflow, again retaining the benefit of money in your accounts.
- Improving inflow – most business owners look at improving inflow as a need to increase the inflow, when in fact a lot of benefit can be had by accelerating the way money comes into your business. Doing things like working with customers who pay their invoices on time, or offering a discount for early payment can improve your business by giving you more money on a day-to-day basis.An essential term here is ‘cash conversion period’. This is the amount of time it takes to turn a sale into solid cash. Reducing this time improves your flow.
- Reducing expenses – it doesn’t take much thought to see that a reduction of expenses helps a business make profits. Expenses aren’t just the materials you use or the wages you pay. Doing things like improving health and safety can reduce compensation expenses, and paying bills within time can help you avoid fines.
- Delaying cash outflows – this part of the process is exactly as it sounds. Cash outflow should be seen as a delicate balance between getting your bills paid on time and keeping your money for as long as possible. Negotiate late payments when you can and don’t pay early unless you can get a discount.