The Importance of Cash Flow. Insolvency Practitioners can Help
Cash Flow Monitoring is Vital. How Good is Your Company’s?
In an earlier article (Cash, Cash, Cash), one of our insolvency practitioners looked at the importance of cash flow forecasting. As the new year dawns, it seems a good time to reiterate that cash flow is a pivotal tool that is necessary for established business and even more so for new start-ups.
Poor cash flow monitoring and management tends to be the number one reason why most businesses fail, which is often when insolvency practitioners are brought in. Therefore, it is imperative that you have adequate cash flow and resources to pay your bills and employees on time otherwise you could be on the fast track of going out of business.
If there is a problem with cash flow, the faster it is identified, the more you can do to put things right. This article revisits the importance of cash flow, looks at how it might be improved and suggests ways of managing it well internally.
What is Cash Flow?
Positive cash flow indicates that a company’s liquid assets are increasing, enabling it to settle debts, reinvest in its business, return money to shareholders, pay expenses and provide a buffer against future financial difficulties.
Negative cash flow indicates that a company’s liquid assets are decreasing. Net cash flow is distinguished from net income, which includes accounts receivable and other items for which payment has not actually been received.
Cash flow is used to assess the quality of a company’s income, that is, how liquid it is, which can indicate whether the company is positioned to remain solvent. If it isn’t, then the company is likely to be in distress (see page 9 of our insolvency and restructuring guide) and action needs to be taken.
Ways to Assist with Your Company’s Cash Flow
As insolvency practitioners, we’re not just here to deal with insolvencies. We’re also here to help businesses identify problems and turn things around. Here are some of the main ways that are used to assist cash flow, along with the pros and cons.
- Self-Financing Cash Flow
Self-financing your business can mean you do not have to deal with banks or investors. Plus, when your own money is on the line, you’ll look at your business differently than if you had borrowed it. Unfortunately, this is not an option for everyone and it does increase personal debt and your risk of bankruptcy.
- Financing Cash Flow
When cash flow becomes a problem for your business, it is best to look at outside funding options like 99% of small business do. Banks will offer larger loans at a lower APR; however, the application process can take months. Unsecured loans will get you money faster, though lenders will limit the amount you can borrow and your APR will likely be very high. This is why, when it comes to financing cash flow, a cash flow loan is a good balance between the application process time and the cost of APR.
- Business Credit Cards
Using a business credit card is a popular option because of the relatively easy access to securing funding. The negatives for using a business credit card are the higher APR and lower borrowing limits which make it an impractical option in the long term.
- Term Loans
A term loan lets you borrow a sum of money and pay it back according to a fixed payment schedule. Most term loans require a business to have operated two years or more making term loans a good choice for established small businesses. However, some degree of security might be requested from the lender.
· Invoice Financing
Invoice financing lets you borrow money by managing your accounts receivable to cover gaps in cash flow. This is especially useful if you land a larger contract and need help coming up with cash up front to meet the large order. It should be noted that this option can be quite costly to small businesses.
Selecting the best way to finance cash flow is not an easy decision. You’ll need an in-depth knowledge of your business to know which method is right for you, and help and advice from specialists such as us, if required.
Considerations for Managing Cash Flow Internally
Do you think your business is safe? Do you have adequate cash flow? Do you monitor your cash flow regularly? It is not unusual for the answer to the latter question to be no. Here are few pointers.
- Designate an employee to monitor Cash Flow
Assign the task of monitoring cash flow to a senior member of staff who can inform you when your company’s cash flow drops below a certain level.
- Maintain sufficient Cash Reserves
Every business will suffer from cash a shortfall from time to time which is why it is essential that a sufficient amount of the company’s profits are set aside to combat this.
- Use Technology
There are a number of software programs available to assist with the monitoring of cash flow. Use them to your advantage.
- Collect debtor monies as soon as possible
You should avoid granting customers generous credit terms and try to ensure all debts are settled within 30 days. It is important that this is monitored by a senior member of staff and that debtors are chased promptly once they fall due.
- Encourage Customers to Pay up Faster
Offer your customers early payment discounts to encourage them to pay before the debt even becomes due. Establish a written set of standards for determining who is eligible for credit as you don’t want every customer walking in the door approved for credit.
- Extend Payables
Try to get the best deal you can on your own credit limit with suppliers. Extend your payables for as long as you can to give you some breathing space when cash flow is tight.
Make Sure Your Cash Flow Monitoring is Fit for Purpose. Talk to our Insolvency Practitioners
It is imperative that cash flow is considered not only when a business begins to trade but on an on-going basis. Directors should therefore be asking themselves whether the system they have for monitoring cash flow is still the most useful and cost effective as the company grows.
For a free initial consultation and further information on cash flow please contact our insolvency practitioners or call us on 0208 088 0633. We have offices in London, Essex, Salisbury and the Cotswolds.