How to prevent cash flow crisis in your business?

What is cash flow and why is it important for your business?

Cash flow, cash flow, cash flow... it's like the heartbeat of a business. Without it, you might as well be dead in the water.

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What is it? Put simply, it’s the movement of money in and out of your company, where cash inflow is cash received and cash outflow is cash spent. The goal is to have a positive cash flow in order to create value for shareholders.

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Think of cash flow like the blood vessels in your body. It's the transportation system that keeps the greenbacks flowing in and out of your company. And just like how your body needs a steady flow of blood to function properly, your business needs a steady flow of cash to keep the lights on, the employees paid, and the inventory stocked.

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But here's the thing, just like how cholesterol can clog your arteries, unexpected expenses can clog up your cash flow. And if you don't watch it closely, you might find yourself in a pickle, unable to pay the bills or invest in new opportunities. And who wants to be in that pickle?

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And just like how you need to exercise and eat right to maintain a healthy cardiovascular system, you need to keep an eye on your cash flow, make sure you're not overspending, and have a plan in case of emergencies. Like a rainy day fund, but for your business.

Identifying the warning signs of a cash flow crisis

It’s perfectly reasonable and expected to be concerned about a potential cash flow crisis. And as with many other things, there are a number of warning signs you can watch out for:

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Decrease in cash reserves or increase in accounts payable. A reduction in cash reserves and an increase in accounts payable (money you owe) can be an indication that your business is struggling to generate enough cash from its operations.
Decline in sales and revenue. A decrease in sales and revenue can be an indication that the business is struggling to attract and retain customers. The fewer customers you have, the less revenue you’ll get.
Cash flow is out of sync. Timing can be everything. Collecting the money you’re owed (accounts receivable) in a time-efficient manner can make all the difference. For example, if your accounts receivable balance increases due to customers delaying payments, this can put immense pressure on your cash flow.
Difficulty in meeting debt obligations. Clearly, if your business is unable to meet its debt obligations, it can lead to financial difficulties and even default.
Decrease in investments in growth and expansion. A reduction in investments in growth and expansion projects can be an indication that the business is conserving cash and reducing its risk.
Excessive stock levels. Not only does holding excessive stock take up space and money, but it can indicate that sales have decreased.

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Understanding and Monitoring Cash Flow Metrics

In order to effectively manage your cash flow, you need to understand it, and there are some important metrics and software that can help you with that.

Key Cash Flow Metrics to Track

Operating Cash Flow (OCF). This would measure the cash generated by your company's core business operations. You can calculate it by subtracting operating expenses from operating revenues.
Free Cash Flow (FCF). This measures the cash your company still has left over after all of its operating expenses and capital expenditures have been paid.
Cash Burn Rate. This measures how quickly your company uses up its cash reserves, and it's often used by startup companies to gauge their need for funding.
Net Cash Flow. This is the difference between the amount of cash going in and out of your business over a given time period.
Accounts Receivable Turnover (ART). The ART metric measures how quickly and how often your company collects payments from its customers.
Days Sales Outstanding (DSO). This measures how long it takes your company to collect payments from its customers.
Accounts Payable Turnover (APT). This measures how quickly your company pays its bills. Destiny's Child asks you: can you pay your bills?
Days Payable Outstanding (DPO). This measures how long it takes your company to pay its bills.

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By monitoring these metrics, businesses can better understand their financial performance and make informed decisions about managing their cash flow.

Tools for Monitoring and Analyzing Cash Flow

We’re not going to leave you empty-handed with nothing to help you keep track of your cash flow; let’s look at cash flow management software. These are software that facilitate cash flow control–from past, present, and future–so that you can ensure the financial health of your business.

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Cash flow management software essentially link your balance sheet and income statements in order to create cash flow statements for your business. This allows you to have real-time insights, be able to forecast, make better financial decisions, and save time and money.

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Now, what are some software you could use? Here are a few, in no particular order:

Quickbooks. This accounting software is already largely used, especially by small businesses. Utilise their cash flow management tool as well!
Scoro. This software is all-encompassing, meant for overall business management, including cash flow management.
PlanGuru. This tool is great for small businesses looking to budget, monitor cash flows, and create financial forecasts.
Float. This works well with many other accounting platforms and helps with forecasting and cash flow management.
MoolahMore. This is a cloud-based tool specific for cash flow management, helping you create analyses and projections.

Budgeting and Forecasting Cash Flow

We’ve mentioned budgeting and forecasting a few times. But what’s the difference between the two and why do you need them?

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Your budget shows all of the finances (income and expenditures) over a given period of time, typically 12 months. Whereas, a cash flow forecast is a projection of when cash inflows and outflows will take place, usually displayed on a month-to-month basis.

Developing a Budget and Cash Flow Forecast

To develop the budget, you can simply start by determining what is expected to come in and what your expenses will be, over a certain time period. This includes product expenses, overhead expenses, variable expenses, and other expenses.

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As for cash flow forecasting:

Determine how far ahead the forecast will be first. Be sure to only plan as far as you can in order for predictions to be as accurate as possible.
Organise your cash inflows by each month, whether they be sales-related or not. Make sure that you’re only including cash that will actually be in your bank account. Thus, you must also look at your accounts receivable.
Detail your cash outflows, using previous monthly expenses as a reference guide. Similarly to the previous step, you must also look at your accounts payable.
Calculate your running cash flow by subtracting your net outflows from your net inflows. If you get a positive number, this is a positive cash flow figure, meaning more cash is coming in than going out. If it’s a negative number, it’s a negative cash flow figure, which means more cash is going out than in. It’s okay if sometimes you have negative cash flow, but too often signals a red flag.

Identifying and Managing Budget Variance

A budget variance occurs when there’s a difference between the actual amount and the planned (or budgeted) amount. This can happen for a number of reasons, including inaccurate budgeting, cost changes, changes in operation, and changes in the economy. The variance could be favourable, meaning that it had a positive effect (e.g., actual revenue was more than planned revenue). Or, it could be unfavourable, meaning that there was a negative effect (e.g., actual expenses were more than planned expenses).

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If you have a budget variance, whether it be favourable or unfavourable, it’s important to understand why it’s happening. Your goal should be to optimise your business budget planning. That’s why you should be performing a budget variance analysis, at least quarterly.

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For a budget variance analysis, you can use several methods such as dashboards or spreadsheets. To calculate, you simply subtract the actual figure from the budgeted figure. You should do this with each element and sub-element in the budget (i.e., revenue, cost of goods sold, overhead expenses, etc).

Managing Debt and Expenses

Although the word “debt” has quite a negative connotation, it’s not always bad. It can actually be a good thing in some cases to access cash. However, let’s not get too ahead of ourselves. This is still something that needs to be managed.

Strategies for Reducing Debt and Expenses

What are some things you can do to reduce your business debt? Glad you asked:

Renegotiating or consolidating loans. If you’re going through a difficult time, your lenders would likely rather renegotiate things such as servicing costs than lose you as a client. Or, if you have multiple different loans, see if you can consolidate them into one loan at a lower interest rate.
Looking for grants. These grants can come from economic development groups, nonprofit organisations, and governmental and non-governmental agencies. Make sure you meet eligibility requirements, though.
Cutting your costs. There are many different ways you can do this, including following zero-based budgeting.
Reevaluate accounts receivable. It might be smart to review your accounts receivable, and enact shorter payment terms. With existing clients, changing these terms is much less attractive. In this case, consider offering incentives or using a certified receivable company, which will provide a percentage of the amount owed and take the burden of the held-up payments.

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Keep in mind that these are only some strategies, and there are different variations to some of them.

Generating and Diversifying Revenue

An obvious thing that improves cash flow is increases in revenue generation. Of course, it’s not the only thing that you should be focusing on, but it definitely doesn’t hurt.

Increasing Sales and Revenues

This is something that everyone loves, and can be done in so many different ways that it would be difficult to list every single method. Things you can do include;

Refine your pricing (e.g., selling more at a lower price)
Target repeat customers (e.g., via increased communication)
Offer discounts
Specialised incentives (e.g., birthday gifts to existing customers)
Optimise your online presence
Consider subscriptions (e.g., for a product that needs regular replacement, like prescription eye contacts)
Add a payment method. Think of all the potential customers you exclude by not accepting MasterCard, for example.
Product/service bundles. Customers would save money by purchasing more than one product/service.

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The list could go on and on. Point is, there are countless ways you can increase your sales and revenue. Test them, see if they work, and act accordingly.

Developing Multiple Streams of Income

Diversifying your streams of income is something that can help reduce risk–never rely on one stream for your business. It may be tempting to stick with one stream if you find good success, but then what do you do if it becomes compromised? You never know what could happen and how it could affect different industries or businesses. As they say, never put all your eggs in one basket. After what the world saw with COVID-19, though, this is a strategy that has become more common.

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One thing that can be done, if not already, is offering online sales in addition to physical sales. This is already a move that many companies made following the pandemic, with online shopping becoming increasingly popular. Another route you can take is consulting–offer your advice from being expertise in your industry. Or, you can also explore brand partnerships, where you partner with social media influencers. Don’t be immediately deterred by this idea–you can also approach “micro-influencers” which are those with smaller, but engaged audiences.

Optimizing Inventory and Supplier Management

How would you have a clear, organised mind if your closet is all cluttered? Not only does a messy inventory result in difficulties regarding knowing what you do and don’t have, but it also costs you. For example, holding costs are what you pay to store your inventory. If there’s a manual miscount, or things are misplaced, you could mistakenly order and/or produce goods you already have. That means that there are items being unnecessarily stored, costing you inventory space and, consequently, money. Just as it’s important to keep your supplies managed, you must do so as well with your suppliers.

Strategies for Managing Inventory

Although there are different strategies that work better for certain industries or circumstances, here are some basic ones to consider:

Use enterprise resource planning (ERP) software. If you have a very small inventory, it could be sufficient to use simple spreadsheets. However, as your business and inventory grow, having an inventory management software makes a significant difference. These software can perform a variety of tasks, including inventory counts, ordering, and real-time updates.
Have a safety stock inventory. This is a small amount of surplus inventory, which acts as a safety net if there’s an unexpected increase in demand.
Utilise mobile technology. There are apps you can download on your mobile phone to help with inventory management, such as Sortly, inFlow, and Inventory Now.
Use batch tracking. Here, items with similar production (e.g., manufacturing date, location, raw materials used, and their supply chain sources) are grouped together and tracked. This helps find the source of any quality issues, and contributes to efficiently recalling any items, when necessary.
Forecast. Accurate forecasts heavily impacts your demand and production plans. It’s crucial that you forecast, taking into account past demand history, and anything you already know could change demand (e.g., seasonal promotions/events).

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Take this information with a grain of salt and always make sure that the strategies you choose fit your product/service demands and business goals.

Building Strong Relationships with Suppliers

Developing a sustainable relationship with your suppliers can be of the essence. This allows them to serve you better, so you can serve your customers better. Here are a few tips to make sure this happens:

Maintain consistent communication. A great way to develop a relationship is through communication. Don’t just contact them when something’s gone wrong.
Remember both of your roles. Your supplier does not work solely to benefit you–they are not at your service. You both play active, mutually-beneficial roles in the relationship. Treat them as such. Make them feel as if they are a part of your business, give them updates, etc.
Be a good customer. Act as a great customer would act: make timely payments, give feedback, show loyalty, and (just as importantly!) show appreciation. Basically, act as your ideal customer would act towards you.
Make sure your values align. There have been too many instances where a supplier/buyer does something that the other strongly disagrees with. Many times, this could lead to the buyer-supplier relationship deteriorating due to unaligned values.

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A lot of what goes into managing strong relationships with your suppliers is similar to what you would do for any other relationship. If you want to keep it healthy, you must nourish it.

Securing Funding and Investment

An important part of all businesses–and cash flow–is funding and investment. Of course, there are many people who choose to bootstrap their businesses, but if you want to take the investor road, you should learn the basics.

Identifying and Pursuing Funding Opportunities

First up, how do you actually find investors and funding opportunities? To begin, you need to answer some questions: what you want to do, how you want to do it, and who you are doing it for. Then, become familiar with different types of funding sources, besides yourself:

Money from family, friends, etc
Angel investors
Venture capitalists
Crowdfunding
Business incubator/accelerator
Grants
Loans

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To find opportunities, there are a number of tips you can follow, in addition to simple Google searches:

Sign up to the professional society newsletter which applies to you. Here, you may often find funding opportunities within your industry.
Word of mouth: ask how peers and colleagues found their funding and/or investors.
Check out online funding websites. You can find many different funding sources on these sites. Some platforms include: Kickstarter, WellFound, and WeFunder.
Do some networking. Attend events specific to your industry–a plus if it’s focused on investing!
LinkedIn. Some online networking! Look at your connections, search opportunities using keywords, and make sure your profile is up to date.

Attracting Investors

First and foremost, investors will always look at how sustainable your business model is. If they don’t see it or believe in it, you can pretty much kiss your chances of getting investment goodbye. But that’s base of what you need…once you have that, that just gets them to consider looking your way. So what can you do to make sure they listen to you and want to invest in you?

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Show them your plan and roadmap. This helps convince them that your business model works. Be sure to include as much data as possible, including but not limited to: value proposition, balance sheets, cash flow, how much money you require, and how the money will be used.
Sell the idea. The investors need to believe in your idea, and at the very least, believe that you believe in it. Make sure you emphasise and show your passion for the company’s vision, mission, and how it’s potential impact.
Offer dividends. In addition to giving equity via stocks, specifically give stock that pays dividends. This gives investors an immediate cash flow return.
Choose the right investors. It’s best you approach investors that have experience with or deep knowledge of your industry.
Be transparent. Without going into excruciating detail, be honest about any challenges you’ve had. If you only tell potential investors sunshine and rainbows, it can create distrust, and make them less likely to invest.

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Building Strong Relationships

As discussed with suppliers, having strong relationships within and surrounding your business is vital.

Building Strong Relationships with Customers

Your customers are the heart of your business. If you have unhappy customers, you have nothing. There’s one metric called Customer Lifetime Value (CLV) which indicates the value of one customer to your company, based on their entire relationship with the company. A goal of yours should be to make this as high as possible.

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To maintain secure relationships with customers, you should:

Make efforts to understand them and their values. It seems obvious, but listen to what they want–they are who you need to be listening to. You are creating value for them.
Offer great customer service. The difference that can be made through exceptional customer service is substantial. This shows them that you actually care about their experience, and that you want them to have the best outcomes. Sometimes, this can make the difference between a loyal customer and someone who just moves on to the next competitor.
Be easy to contact. Use many different communication channels so that help feels accessible to your customers.
Utilise Customer Relationship Management (CRM) tools. These can be systems that allow you to build profiles for customers so you can always stay up to date with their needs. This can help you understand better and reveal insights about your customers.
Show appreciation. When you have loyal customers, you must show that they’re appreciated. This can be done through exclusive discounts or promotions, premiums, rewards programs, etc.
Feedback. Always welcome feedback, and make the process easy. This not only allows you to improve your product/service, but it makes your customers feel heard.

Building Strong Relationships with Vendors

Having a good relationship with your vendors will require efforts very similar to those for your suppliers. So, to keep it short:

Maintain consistent communication.
Be a good customer.
Have aligning values.
Refer their business to colleagues.
Never promise on something you can’t deliver.

Preparing for and Responding to Emergencies

Ah, business emergencies. The bane of the modern entrepreneur's existence. We all either know or can imagine the feeling: you're busy trying to run a successful business, and then boom–the unexpected happens, and suddenly you're neck-deep in a full-blown crisis.

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But, you don't have to go at it alone. With a bit of planning and preparation, you can be ready to tackle any business emergency that comes your way.

Developing a Contingency Plan

No matter how much you plan ahead, sometimes life throws you a curveball. That's why it's important to have a contingency plan in place. Contingency planning is like an insurance policy for your business–a way to prepare for potential disruptions, so you can keep your business running smoothly no matter what comes your way. A contingency plan is a detailed outline of the steps you will take in the event of an unexpected event or crisis. Let’s look at how to build one:

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Make a list of all risks. With your team and managers, think of and write down any potential events that could put your business at risk.
Prioritise important risks. Go through your list and evaluate them based on likelihood and severity. Then decide which ones are most important.
Create a contingency plan for each event. After narrowing them down, start your contingency plans for each important risk. This should include information such as: what triggers the plan, your response and its timeline, and who’s involved.
Share the contingency plans. Share them with the appropriate people, so that everyone would know what to do, if needed.
Review contingency plans. Over time, you should periodically review contingency plans to accommodate any changes (e.g., new risks, changes in your business, changes in risks, etc).

Responding to a Cash Flow Crisis

Cash flow crises can be stressful and challenging to manage. At times like these, it can be hard to remain calm and make the right decisions to get your business back on track. But don't worry - with a little bit of ingenuity, you can find creative solutions to your cash flow problems. A lot of things you can do have already been touched on in the “managing debt/expenses” and “increasing your revenue” sections. So in addition to doing all of those things, there are some other tips you can consider.

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For one, you should attempt to renegotiate with your creditors, suppliers, and vendors, explain your situation, and suggest a new payment date/option. This is when nurturing those relationships comes to benefit you. And please, do not avoid these people when you face a cash flow crisis! This will only aggravate them and create animosity. It’s better to keep them up to date and propose different ways for them to still get what you owe them.

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Next thing to consider is selling your non-critical assets. You should not rely on this strategy, since there’s a limited amount of non-essential assets. Some examples are company cars and PPE (property, plant, and equipment). For example, if you’re able to consolidate everything to save space and, as a result, be able to rent out a warehouse, that would be ideal.

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A final strategy to take, which comes when your business becomes insolvent, is a business rescue. There are a few ways you can follow through with this, including Company Voluntary Arrangement (CVA) and Time to Pay (TTP). Both of these essentially give you more time to pay, with the latter involving a licenced insolvency practitioner negotiating on your behalf. As more of a last resort, there’s also liquidation, where are of your company assets are sold to repay your creditors as much as possible.

Continuously Improving Cash Flow Strategies

Cash flow can be a real pain. But, with some patience and dedication, you can learn to manage your cash flow and make sure it's always running smoothly.

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The first step is to review and assess your current cash flow strategies. Take a look at how you're managing your money, and see where you can make improvements. Are you spending too much on unnecessary items? Are you investing in the right places? Are you taking advantage of the best payment methods? Take the time to really assess your strategies and make sure you're getting the most out of them.

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Once you've done this, it's time to start making changes and improvements. If you're spending too much, try to tighten those purse strings. If you're not investing in the right places, make sure you're putting your money in the places that will will you the biggest bang for your buck. Find ways to take advantage of the best payment methods, and make sure you're getting the most out of every transaction. These seem so obvious, but it’s also so easy to overlook.

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Continuously improving your cash flow strategies takes dedication and effort, but it's worth it in the long run!

Conclusion

So, while cash flow crises may seem inevitable, they don’t have to be. Preventing a cash flow crisis is really all about being proactive and staying on top of your finances. There's no magic bullet, but planning ahead and being aware of your cash flow can help you avoid any hiccups. So, if you can remember to keep an eye on your money, you’re one step ahead. But, it’s still important you have those contingency plans in place! Put in preventative measures, but always be prepared for the worst case scenario.

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We know that starting and running a business, especially at the beginning and/or in rough environments, can be extremely intimidating. But, just remember that if it were impossible, no one would still be standing.

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