How Cash Management Benefits Your Business
We believe that Cash Management is everything to a business, large or small. After all, companies do not fail because they are not profitable, lack good ideas or have bad management; they fail because and when they run out of cash.
The golden rules of cash management are:
- Guard your nest egg. Every business starts with some money. Companies have been started with tiny amounts of cash; we’ve heard of significant enterprises founded with tiny amounts of money, such as $50. Here an entrepreneur spent the $50 to buy something they then sold for $100, then traded that for $200 and so on. But truth be told, the smallest business needs far more than $50 to get going. They usually begin their business with money from:
- Hard-earned personal savings.
- Personal pension money that they have cashed in.
- Mortgage of a house – in other words, put your home at risk in case your new enterprise is unsuccessful.
- The Bank of Mom & Dad.
- Investors. These are folk (usually friends or relatives) who you have persuaded that you have a good idea and want a piece of your action, even though they know it’s risky.
- The Bank. Banks are very conservative people and will demand some form of security – like your house – to seize should the business fail.
As you can see, the money needed to get you started has strings attached. Not only will you feel bad about your failure at business, you may also suffer severe personal consequences or even lose your house. You must learn to keep track of your cash as costs deplete, and sales replenished it. If that money runs out and you can’t find it anymore, your business is finished!
- Create a Cash Flow Forecast.
- Try to get Revenue Upfront. As your business begins trading, always try and get as much of the value of an order as you can, and as soon as you can. For an order to be delivered later, try to get as big a deposit (right up to full payment) with the order.
- 14-day Payment Terms. Your Invoicing App should have 14 days rather than the usual 30-days for payment. If your customer has not paid after the terms you specify, take action! (hyperlink to Blog 4 ‘How to Prepare….)
- Sales Commissions. If you pay these, only pay it out once the customer has paid you. Think carefully about how much you pay for repeat business from the same customer. On the one hand, it usually takes less effort from the salesperson to take orders from a regular customer, so this should mean less commission. Conversely, consistent orders from known customers are a good thing! But do you want to pay standard commission for an order that comes in routinely with no effort from anyone?
- Product Returns or Cancellations. Give credit for future sales rather than a refund. Keep in mind that anything returned has less value as a used item than when you sold it new.
- Reduce Purchase Expense. Try and get a business discount – these are often available to another business, but not to a retail customer. Shop around for the best deal. If you acquire something, pay for it as late as you can. If their payment terms are 30 days, take 45 or even longer! Conserve your cash any way you can.
- Rent, don’t buy. If you purchase an expensive item, the money for it disappears from your bank account immediately, and it may be some time before that product contributes towards sales and profits. Renting or leasing that same item may cost a little more in the long run, but hopefully, the monthly outlay is balanced by the revenue it helped generate.
- Worry if you have less cash in the bank than you had last month!
War Stories. These are real-life tales drawn from experience in running small businesses ourselves:
- We paid a commission to our salespersons, based on the customer orders they presented to us. But we realised that we were spending money to create the product and then paying out sales commission before we received any money from the client! So this created a cash flow problem for the company. We also had an instance where a rogue salesperson booked a lot of sales and received the commissions, but then left the company before we realised the sales were bogus. That’s why we recommend only paying commissions after the client pays you.
- One time I was purchasing a car. I did my best to obtain the lowest quote for the vehicle. But then I happened to mention that it was to be bought not by me, but by our business. Instantly the salesman offered several thousand dollars reduction as a fleet discount.
- After running a business for a small number of years, we had hired some employees and had payrolls to meet. But in Mid-December we discovered that most of our customers shut down their accounts payable departments until sometime in January. So, over a month without any money coming in. A cash flow forecast demonstrated that we would not have enough funds for the January payroll. One of the principals had to quickly take out a mortgage on his house to meet the payroll. Horrible, but without that cash, we would have been forced into bankruptcy!
- In a former career, I came into contact with the Chairman of a multi-billion dollar conglomerate. He controlled a huge variety of businesses from museums to amusement parks, from newspapers to education publishers, from a bank to television stations. Understanding the complex financial statements present from such a variety of businesses was virtually impossible. So, each month, he would ask each of the CEO’s the following question, ‘How much cash did you earn this month?’ This question cut through any obfuscation or creative accounting and got to the essentials of that business quickly. The answer had better be more than last month, or serious discussions ensued. Cash is as vital to every business, big or small.
Hints and Tips:
- It may not be intuitive, but true that rapidly growing businesses are usually short of cash. One might think that they are doing so well, they must be OK. The reason is that they are having to purchase equipment, advertise, print stationery, rent office space, hire new employees who need laptops, desks, chairs etc. but who are not yet productive. Mature businesses in a steady-state can generate constant cash flow because they don’t need to do these things.
- Some clients demand over-the-top service, can be aggressive, and often create friction with your employees. If the revenue and profit are worth the hassle, suck it up. If not, let such clients go to the competition!
- It is OK to lose money on a customer as long as you choose to do this, know why, and when it will cease.
- If you have to collect Sales Tax (or VAT, GST, etc.) on your sales, don’t forget that you have to pay it to the government, usually every three months. This can be a shock to your bank balance! Your invoicing system should keep track of it, so at least you know how much you owe.
- Typically, a small number of good clients generate most of your profit. They are the ones who buy your most profitable products, purchase stuff regularly, pay on time, and don’t demand special treatment. They are treasures; treat them well!
Your cash is a vital resource. It is the blood of the business. Watch it, manage it, conserve it, spend it wisely and only when necessary. One day, hopefully, sooner than later, you should notice that you have paid back loans yet still have more in the bank than you had in the beginning. This means the business has earned back all the money you have put into it. It is a cause for celebration. Your enterprise is a success! Congratulations!