“Cash is king” is an age-old saying that describes the need to keep your cash flow strong when your customers are a little slow in paying. This is an issue for small business now more than ever before due to the global COVID-19 pandemic.
A business’s cash flow is often cited as a key factor in its potential for long-term success. A business could have fantastic revenue, reasonable expenses, and significant income, but if its financial operations are not designed efficiently, it could still have a negative cash flow.
A key factor to operating a positive cash flow is being able to operate your business.
During New Zealand’s nationwide lockdown period of 25 March to 29 April 2020, the impact on small to medium businesses was felt hard, and immediately. Business owners were left scrambling with many not in a position to simply close their doors and operate an online selling platform at such short notice. And while the Government released subsidies in a bid to keep the economy steady, the effect has been profound.
Many successful businesses went from promising profit margins to zero income in a matter of days. And while we can now say the stress of that time is behind us, we find business owners are now focussing on how they can strengthen their business continuity planning for the future – which includes improving their cash flow cycle.
Understanding working capital and its effect on cash flow
To truly understand the impact of cash flow on a business, you need to understand how the working capital cycle works.
Working capital cycle: how long it takes from start to finish in a business transaction and to receive the cash in your hand.
Using the basic diagram above as an example of a business that manufactures its product - if each stage of this cycle takes 30 days, this business would be funding their sales through either cash or finance for 180 days. That is just under six months which is a long time for any business to survive – particularly in the current environment.
If you then take that six-month period and add in variables such as debtors who take longer than 30 days to pay, the amount of stock you are holding and product delays, you can see how your working capital would have a significant impact on your businesses cash flow.
Designing an efficient financial operation = positive cash flow
So, what can you do as a business owner to reduce the timeframes in the cycle and ensure your business remains highly profitable and cash ready?
Here are our tips:
- Be upfront with customers about your terms, due dates, and penalties. Show due dates boldly on your invoices and ensure your late payment penalties are clearly displayed.
- Have you reviewed your payment terms recently? Are you operating on a 30-day payment system? Why not consider reducing this to 7-day payment terms as is becoming more common.
- Provide your customers with options to pay – no one payment system suits all. Provide options for online banking, credit card, funded payments etc.
- Keep detailed records– if you are in a service industry that works on a time charge basis, use software to your advantage and create detailed timesheets of the work performed. It provides your customer with transparency and builds trust.
- Consider the frequency of your billing? Do you wait for the 20th of the month to bill all your customers? This could mean a delay of up to 4 weeks between the work being performed and the invoice being received by the customer and then on top of that a 30-day payment term could mean it is 2 months before you see payment for your services. Consider changing your practices to billing upon completion of the job.
- Do you take deposits? If you are required to purchase high value, non-refundable items to complete a job, consider seeking a non-refundable deposit from your customer. Ensure your terms and conditions adequately cover the deposit paid in the event the customer cancels. This reduces your risk of being out of pocket for an item that might take some time to move on.
These small items of consideration can have a big and immediate impact on your cash on hand. By simply reducing your debtor days, you could quite quickly see more cash in the bank sooner.
It does not stop there though!
Putting an efficient billing operation in place is one part of the process –what if your customer does not pay?
Unfortunately, this can sometimes be the situation with getting paid – so you should not be afraid to ask for money owed, repeatedly if necessary. By putting a standard collections process in place and then sticking to it, you will find that not only do customers like this consistency, but it will ensure that your invoices are paid on time more frequently.
With more and more businesses using cloud-based accounting software programs, putting automated follow up emails in place is a simple process. But do not rely on automation alone, personal contact is invaluable in building long lasting relationships with your customers.
A collections process could look like a mix of both forms of contact with an example below for a 7-day payment term:
- 1 day prior to due date – a reminder email there is an invoice due the next day
- 3 days after due date – an email advising an invoice is overdue
- 7 days after due date – personalised phone call or email enquiring about payment
- 14 days after due date – notification sent advising penalty interest is being charged
- 30 days after due date – halt any further services unless payment arrangements made
Stay ahead of the game
Without a positive cash flow cycle, any business, no matter how promising the model, financial operations, or collection process, will go bankrupt.
Of course, if a business has just been launched, it may be able to endure negative cash flow in the short-term in hopes of achieving long-term success. But eventually, every business must focus on creating positive cash flow. Without it, a business will not even be able to accomplish the simplest of tasks: paying its monthly expenses.
Engage a bookkeeper to assist with managing your cashflow
If you have read this article and we have given you a reason to justify engaging a bookkeeper for your business search our directory for a Certified Bookkeeper near you.
An ICNZB Certified Bookkeeper® can help you manage all aspects of your invoicing, debt management, collection process.
A bookkeeper will be an integral member of your team so mutual trust and respect are important. We recommend interviewing potential candidates to determine if you feel they will be a good fit for you and your business. Read our tips on finding the right bookkeeper for you here >